OREANDA-NEWS. S&P Global Ratings today said it revised its outlook on Quebec-based convenience store (c-store) operator Alimentation Couche-Tard Inc. to stable from positive. The rating action follows the company's announcement that it has entered into a definitive merger agreement with CST Brands Inc. under which Couche-Tard its plans to acquire CST in an all-cash transaction valued at approximately US$4.4 billion including net debt assumed.

At the same time S&P Global Ratings affirmed its ratings on the company, including its 'BBB' long-term corporate credit rating.

"The outlook revision reflects our view that credit measures will be weaker than we had previously forecast because of the proposed acquisition of CST, which we believe the company plans to finance primarily with debt," said S&P Global Ratings credit analyst Alessio Di Francesco.

We forecast pro forma adjusted debt-to-EBITDA to be about 3.3x at the end of this fiscal year, which incorporates our view that Couche-Tard will complete the sale of most of CST's Canadian operations for US$750 million to Parkland Fuel Corp. also announced this morning. We assume Couche-Tard will retain about 170 of the corporate owned and operated retail sites from CST's network in Canada and that it will use proceeds from the sale to Parkland to pay down a portion of the amount drawn on its revolving credit facility. We expect leverage to improve to below 3x in the company's 2019 fiscal year due in large part to EBITDA growth from our view that the company should realize US$150 million–US$200 million of annual cost synergies within three years of closing the CST acquisition and that acquisition-related operating costs (we assume about US$170 million in this fiscal year) should come down considerably. In our opinion, most of the synergies we assume will be related to cutting overhead costs and leveraging Couche-Tard's merchandise supply chain and operating expertise.

We view Couche-Tard's business risk profile as satisfactory based on the company's position as a leader in the fragmented and competitive North American c-store industry, as well as in the more concentrated Scandinavian market. Couche-Tard's relatively attractive position in North America and Scandinavia, solid merchandising, geographic diversity that mutes regional fuel margin swings, and proven track record of integrating acquisitions all contribute to returns on capital that rank among the strongest for retailers in North America, despite operating in a particularly competitive and relatively volatile retail segment.

We assume the proposed transaction will add more than 1,100 locations in the U. S. and about 170 locations in Canada, bringing the total number of Couche-Tard's North American retail sites to about 9,500 if we include acquisitions announced earlier this year. In our opinion, the acquisition of CST improves the company's scale and geographic diversity. We believe it complements Couche-Tard's existing network in North America by adding approximately 650 retail sites in Texas where Couche-Tard has a relatively small presence and improves its market position in the U. S. South East. In our opinion, the benefits of increased scale and geographic diversity are offset in part by the increased concentration of gross profit we expect will come from the U. S. We consider the U. S. fuel retail market highly fragmented, which contributes to fuel margins per gallon that exhibit greater volatility when compared to Couche-Tard's operations in Canada and Europe.

The stable outlook reflects our expectation that Couche-Tard's adjusted debt-to-EBITDA should return below 3x in fiscal 2019 as it realizes synergies from the proposed acquisition of CST and uses free cash flow along with proceeds from asset sales to reduce debt.

We could lower our ratings on Couche-Tard within the next 24 months if we expect adjusted debt-to-EBITDA to be above 3x in the long term. This could occur if increased competition contributed to weaker profitability, particularly from merchandise and services, or if the company makes significant debt-financed acquisitions or significant shareholder returns.

We could raise the ratings on Couche-Tard within the next 24 months if we expect the company to sustain adjusted debt-to-EBITDA at about 2x. Considering its strategy of expanding through acquisition, we believe Couche-Tard would have less latitude at a higher rating for periodically elevated leverage.