OREANDA-NEWS. S&P Global Ratings today said it has raised to 'B' from 'B-' its long-term corporate credit rating on Mabel Topco Ltd., the parent company of U. K.-based casual dining restaurant operator Wagamama Ltd. The outlook is stable.

Accordingly, we raised our long-term issue rating on the group's ?150 million senior secured notes to 'B'. The recovery rating on these notes remains unchanged at '4', indicating our expectation of average (30%-50%) recovery prospects in the event of a payment default.

At the same time, we also raised our long-term issue rating on the group's ?15 million super senior revolving credit facility (RCF) to 'BB'. The recovery rating on the RCF remains unchanged at '1+', indicating our expectation of full recovery prospects in the event of a payment default.

Our upgrade primarily reflects Wagamama's very strong like-for-like sales growth in the U. K. (9% in FY2015 and 13% in FY2016) alongside new site openings and restaurant refurbishments, while maintaining our adjusted EBITDA margin at about 22%-23%. Going forward, we anticipate that Wagamama will maintain strong operating fundamentals, resulting in our forecast of EBITDAR cash interest coverage (defined as unadjusted EBITDA before deducting rent over cash interest plus rent) being above 1.7x, signaling improved deleveraging prospects.

Our view of the Wagamama's highly leveraged capital structure reflects its high debt level, sizable operating lease profile, and the inherent risk of dividend recapitalization under financial sponsor ownership. We forecast adjusted debt to EBITDA to remain over 8x in FY2017 and FY2018 (or about 5x in FY2017 and FY2018 when excluding the unsecured shareholder loan notes). We treat the unsecured shareholder loan notes as part of our adjusted debt due to insufficient economic incentives aligning with common equity.

As Wagamama rapidly opens new sites and refurbishes existing restaurants, we also expect the group to reinvest most of its operating cash flow for growth capital expenditure (capex), resulting in minimal reported free operating cash flow (FOCF) generation.

Wagamama is the U. K.'s eighth-largest branded casual dining restaurant chain competing in the highly fragmented eating-out market. The group operates about 125 restaurants under its own brand name in prime locations across the country, and is expanding at a steady pace with about five net new restaurants per year.

In light of the weakened pound sterling, we anticipate that suppliers would negotiate for a moderate rise in food costs over the medium term. Nevertheless, we understand that the group has locked in prices on its key ingredients with its major supplier until 2018. This helps the group mitigate some food inflation pressure in the near term. As a result, we forecast that the group's adjusted EBITDA margin could remain at about 22%-23% in FY2017 and FY2018.

At the same time, the nature of the restaurant's operations is constrained by the risks of changing trends in consumers' eating-out habits, fierce competition, and the inherit risk of food safety and hygiene issues. Relative to other rated restaurant peers, we consider that Wagamama's scale of operations still has significant room to expand. These factors result in a business risk profile assessment at the high end of the weak category.

In our base case, we assume: U. K. real GDP growth slowing to 1.5% in 2016 and 0.9% in 2017 following the U. K.'s Brexit vote. Increased consumer price index growth of 0.9% in 2016 and 2.2% in 2017.Strong sales growth of about 12% in FY2017 and 14% in FY2018, supported by strong like-for-like sales growth in the U. K., restaurant refurbishments, and steady new site openings. Adjusted EBITDA margin of about 22%-23% as we expect the group should be able to keep costs under control and benefit from economies of scale under a steady pace of expansion. Capex at 11%-12% of revenues, most of which would be used to fund restaurant refurbishments and new site expansion. Increasing operating lease obligations in line with new site openings. No shareholder remunerations in the near term. Based on these assumptions, we arrive at the following credit measures: Adjusted debt to EBITDA of about 8.5x in FY2017 and 8.1x and FY2018 (about 5.3x in FY2017 and 5.0x FY2018 when excluding unsecured shareholder loan notes).EBITDAR interest coverage of above 1.7x in FY2017 and FY2018.Minimal reported FOCF of less than ?5 million per year in FY2017 and FY2018 due to elevated capex. Wagamama has one financial covenant, which requires the group to maintain a minimum EBITDA of ?17 million. We believe that the group should exhibit significant covenant headroom over the next 12 months.

Our stable outlook primarily reflects our expectation that Wagamama should continue to expand on the back of strong like-for-like sales growth, restaurant refurbishments, and new site openings in the U. K. We forecast an adjusted debt-to-EBITDA ratio of above 8.0x (or about 5x when excluding unsecured shareholder loan notes) and EBITDAR cash interest coverage of over 1.7x over the next 12 months.

We could consider lowering the ratings if the group's operating performance deteriorates and it is unable to rein in capex accordingly, leading to EBITDAR cash interest coverage approaching 1.5x and weakening liquidity. Such a scenario could result from a slowdown in the U. K. economy, increasing competition in the eating-out market, a supply chain disruption, or a food safety scare.

We could also lower the ratings if the financial sponsor materially increases leverage by adopting a more aggressive financial policy with respect to growth, investments, or shareholder returns.

We could consider raising the ratings if, on the back of strong reported FOCF generation and an adequate liquidity position, Wagamama reduces its leverage such that our adjusted debt-to-EBITDA ratio improves to below 5x (including the shareholder loan notes) on a sustainable basis. An upgrade would also be contingent on management and the financial sponsor demonstrating a commitment to a conservative financial policy.