Fitch Downgrades LATAM to 'BB-'; Outlook Stable
The Rating Outlook is Stable.
The rating downgrade reflects the review of LATAM's operational performance as well as expectations for the next 24 months, ending in December 2016, in terms of operational margins, adjusted gross leverage, free cash flow (FCF) generation, and liquidity. It also incorporates the review of LATAM's credit metrics versus its global peers within the rating category. LATAM's gross adjusted leverage and operational margin metrics remain weak for the rating category, the ratings factor in material improvement in these areas during the next quarters.
The Stable Outlook reflects expectations that the company will stabilize its operations and execute its business plan during 2015-2016 period reaching EBIT margin around 8%, adjusted gross leverage trending to 5x, and liquidity, measured as cash and unused committed credit lines/latest 12 months (LTM) revenues ratio, remaining in the upper level of the 10% to 15% range. Brazil's macroeconomic scenario should continue to challenge the company's operational performance.
LATAM's ratings reflect its diversified business model, strong regional market position, high gross adjusted leverage, and adequate liquidity. The ratings also incorporate the company's solid business position in the domestic and international Brazilian market as well as the volatility in the operational results - associated within these markets - through the economic cycle. The ratings of LATAM and TAM and their subsidiaries take into account the credit linkage between the two companies, which stems from their legal, operational, and strategic ties. These links are reflected in the existence of cross-guarantee and cross-default clauses related to the financing of aircraft acquisitions for both LATAM and TAM.
KEY RATING DRIVERS
High Financial Leverage:
LATAM's adjusted gross leverage metric is high and remains weak for the rating category, the ratings consider a gradual business deleverage - driven by better margins - taking place during the next several quarters. The company's adjusted gross leverage is expected to trend toward levels around 5x during the 2015-2016 period. LATAM's gross adjusted leverage, measured as total adjusted debt over EBITDAR ratio, was 6.1x in LTM Dec. 31, 2014 (6.1x in 2013). The company achieved revenues, EBITDAR, and an EBITDAR margin of USD12.5 billion, USD2.0 billion, and 16.4%, respectively, during LTM Dec. 31, 2014, while its 2014 EBIT margin was 4.1% versus 4.9% in 2013. In addition, the company's total adjusted debt was approximately USD12.4 billion at the end of December 2014. This debt includes USD8.7 billion in on-balance-sheet debt and USD3.7 billion in off-balance-sheet obligations related to operating leases with combined rental payments of around USD521 million for LTM Dec. 31, 2014.
EBIT Margin Improvement Key for Business Deleverage:
Factored in the ratings is the view that the company will improve its operational performance and FCF generation resulting in lower gross adjusted leverage during the period 2015-2016 period. Although pricing is expected to remain a crucial issue as macro weakness, FX trend, and soft corporate demand should result in passenger yields declining during 2015, lower fuel cost is expected to offset the decline in revenues per unit. Including fuel hedge cost, the company's total fuel cost per unit is expected to reach a significant decline during 2015. All factors included the company RASK - CASK spread per unit is expected to improve resulting in the company's EBIT margin trending to levels around 8% during the 2015-2016 period versus 4.1% reached during 2014.
By segments, LATAM's capacity management in 2014 resulted in -2% in the international segment, -1% in Brazil's domestic segment, +4% in the Spanish Speaking Domestic segment, and -6% in the cargo segment. LATAM plans capacity increases in 2015 of between 4% and 6% in the international segment, 0% in Brazil's domestic segment, between 4% and 5% in the Spanish Speaking Domestic segment, and from 1% to 3% in the cargo segment. Overall, the company's consolidated capacity is expected to increase to approximately 5.3% in 2015 and 8% in 2016, respectively.
FCF Trend Incorporated:
The company's FCF is expected to be neutral to slightly negative during the 2015-2016 period reflecting balanced levels of cash flow operations and capital expenditures. LATAM maintains a fleet plan that calls for capex levels of USD878 million and USD1 billion during 2015 and 2016, respectively. Including non-fleet capex, the company's total net capex in 2015 and 2016 is estimated at levels of USD1.4 billion and USD 1.6 billion, respectively.
From a strategic and operational point of view, the company's fleet renewal is viewed as a positive as it will provide a cost advantage in terms of fuel consumption. By the end of December 2014, LATAM's consolidated fleet was composed of 327 aircraft units, distributed among its short haul/regional fleet (238 units), long haul fleet (74 units); and cargo fleet (15 units). The company's fleet financing strategy is to maintain approximately 67% of its fleet financing on-balance and the remaining off-balance through operational leases.
Adequate Liquidity:
Fitch views the company's liquidity position as adequate for the rating category. At the end of December 2014, the company had a cash position of USD1.5 billion, along with USD210 million in unused committed credit lines. This level of liquidity, measured as total cash and marketable securities plus unused committed credit lines over LTM revenues, represents 14% of the company's revenues for LTM Dec. 31, 2014. This ratio is expected to be around 15% in the foreseeable future. The company's funds from operations (FFO) fixed charge coverage ratio was 1.8x during 2014, and it is expected to improve trending to levels around 2.4x over the next 24 months ended in December 2016. In addition, LATAM faces debt amortizations of USD1.3 billion and USD1.3 billion during 2015 and 2016, respectively, which will be primarily addressed through refinancing.
Market Position and Diversification Positively Factored:
Fitch views LATAM's strong business position as sustainable in the medium term based on its business diversification, as well as its solid business position both within Latin America and in the international routes between Latin America and either North America or Europe. The ratings incorporate the company's leading market share in Brazil's domestic and international markets, as well as the volatility in operating results associated within these markets through the economic cycle.
The company maintains a leading market position in the domestic markets of Brazil, Chile and Peru with participations of approximately 40%, 80%, and 65%, respectively. The company's market share in the Colombian domestic market is around 20%. The company's market share position in terms of ASK in the intra-regional traffic is estimated around 55%, while its participations in the traffic of the Latin American region with USA/Canada and Europe are estimated at levels 24% and 13%, respectively. The company maintains a good business diversification with International Passengers, Domestic Brazil, Domestic Spanish Speaking Countries, and Cargo divisions representing 39%, 30%, 14% and 14%, respectively, of the company's total revenues by the end of December 2014.
Strong Parent - Sub Credit Linkage:
LATAM maintains indirectly substantially all of the economic rights and 20% of the voting rights in TAM, which is an affiliate company of LATAM. The ratings of LATAM and TAM also incorporate the strong credit linkage between both entities with significant legal, operational and strategic ties existing between the two companies. This situation is reflected in the existence of cross guarantees and cross default clauses related to the aircraft financing for both entities, no restriction in terms of dividends and/or intercompany loan between both entities with substantially all dividend flow generated by TAM expected to be oriented to LATAM through its non-voting shares in TAM. In addition, the financing of the combined fleet plan capital expenditure is primarily implemented through LATAM with the new aircraft being subleased to TAM.
KEY ASSUMPTIONS
Fitch's key assumptions within the rating case for the issuer include:
--2015 EBIT margin around 8%.
--Gross leverage trending to levels around 5x during the 2015-2016 period, and consistently in the 4.5x to 5x range thereafter.
--Neutral FCF in 2015.
--FFO fixed charge coverage consistently above 2.25x.
--Cash and marketable securities over LTM revenues consistently in the upper level of the 10% to 15% range.
RATING SENSITIVITIES
Considerations that could lead to a negative rating action (Rating or Outlook):
Future developments that may, individually or collectively, lead to a negative rating action include:
--Sustained negative FCF;
--Weakening liquidity consistently at levels below incorporated expectations;
--Gross adjusted leverage consistently above 5x;
--EBIT margin consistently below 7%;
--FFO fixed charge coverage consistently below 2x.
Considerations that could lead to a positive rating action (Rating or Outlook):
Conversely, Fitch may take a positive rating action if a combination of the following factors takes place:
--Adjusted gross leverage sustained at 4x;
--Neutral to positive FCF generation;
--FFO fixed charge coverage consistently around 3x;
--EBIT margin moving to 10%.
Fitch has taken the following rating actions:
LATAM Airlines Group S.A.:
--Long-term Issuer Default Rating (IDR) downgraded to 'BB-' from 'BB';
--National Equity Rating affirmed at 'Primera Clase Nivel 2 (cl)'.
TAM S.A.
--Long-term IDR downgraded to 'BB-' from 'BB';
--Local currency IDR downgraded to 'BB-'from 'BB';
--National long-term rating downgraded to 'A(bra)' from 'A+(bra)'.
Tam Linhas Aereas S.A.
--Long-term IDR downgraded to 'BB-'from 'BB';
--Local currency IDR downgraded to 'BB-' from 'BB';
--National long-term rating downgraded to 'A(bra)' from 'A+(bra)'.
Tam Capital Inc.
--USD300 million senior unsecured note due 2017 downgraded to 'BB-' from 'BB'.
Tam Capital Inc. 2
--USD300 million senior unsecured note due to 2020 downgraded to 'BB-' from 'BB'.
Tam Capital Inc. 3
--USD500 million senior unsecured note due 2021 downgraded to 'BB-' from 'BB';
The Rating Outlook is revised to Stable from Negative.
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