OREANDA-NEWS. Fitch Ratings has affirmed Airbus Group SE's (Airbus) Long-term Issuer Default Rating (IDR) at 'A-'. Fitch has also affirmed Airbus and Airbus Group Finance BV's senior unsecured ratings at 'A-' and Airbus's Short-term IDR and commercial paper rating at 'F2'. The Outlook on the Long-term IDR is Stable.

The ratings reflect Airbus's strong position in the large commercial aircraft (LCA) market, a large order backlog, which provides good visibility on top line evolution, and a robust liquidity profile. Profitability and cash flow is currently weak for the rating, reflecting the costs associated with the introduction of new aircraft including development costs, inventory build-up, and high unit cost of early deliveries. We expect profitability to improve significantly from 2017, driven by production rate increases, cost improvement in new programmes, and a positive FX impact.

Through the cycle, Fitch expects funds from operations (FFO) and free cash flow (FCF) margins of at least 9% and 3%, respectively, for the company to maintain the 'A-' rating. Although Fitch believes that the company will reach these margins over the coming three to four years, failure to demonstrate positive momentum on these two ratios may place pressure on the rating.

KEY RATING DRIVERS
Backlog Supports Revenues
Airbus has a strong business profile as one of only two large commercial aircraft manufacturers, alongside Boeing. Although potential competitors are looking to enter parts of the market, Fitch does not expect them to encroach on the established manufacturers' competitive position in the short to medium term. At end-May 2015, the company had firm orders for over 6,368 aircraft, representing almost 11 years of production, allowing for significant visibility of production rates and revenues despite potential volatility in orders.

Cash Flows Improving
Airbus improved its FFO margins in 2014 to 8.1% from 6.8% in 2013, largely as a result of operational improvements and lower development costs. The last 12 months (LTM) FFO margin declined slightly to 7.4% as A350 deliveries began. The margins remain low for the 'A-' rating and may improve only gradually in the coming two to three years. Fitch expects Airbus to demonstrate the ability to improve its FFO margin to over 9% in order to maintain the rating.

Fitch's calculation of FCF for the LTM to 31 March 2015 improved to EUR315m (2013: negative EUR1558m, 2014: negative EUR577m), driven by an improvement in working capital flows. Nevertheless, FCF is likely to be around breakeven in 2015 as the company is likely to see a rise in inventory levels related to the A350 and A320NEO programmes, and is unlikely to see the same level of customer advance inflows as in previous recent years. Airbus is likely to see a reversal of these working capital outflows after 2015 as new aircraft programmes begin and ramp-up deliveries. To maintain the 'A-' rating, Fitch expects Airbus to demonstrate the ability to generate FCF of over 3% on a sustainable basis.

Programme Performance Key
Cost overruns and ramp-up issues surrounding large programmes remain risks. However, execution has improved significantly in recent years, owing to a more prudent application of engineering resources, the maturity of development work on certain aircraft like the A350, as well as the lower risk and less investment heavy re-engineering approach taken to new programmes such as the A320NEO and A330NEO, the latter of which was launched in 2Q14. The A400M continues to weigh on performance, with EUR551m provisions taken in 2014 against the programme relating to performance, and the crash of an aircraft prior to delivery in May 2015 representing a currently unknown expense.

Currency Mismatch
As Airbus derives a significant portion of its revenue in US dollars rather than in its chief cost currency (euros), it is obliged to keep a large hedging portfolio. This exposes it to earnings volatility as hedges run off and are renewed. The extent of this currency mismatch remains a rating risk, although it has been gradually falling as a result of new programmes structured in more currency-balanced ways.

RATING SENSITIVITIES
We could take negative rating action if the group's financial profile remains materially below Fitch's expectations of a 'A-' manufacturing company, including an FCF margin consistently below 3% (2014: negative 1.0%), an FFO margin sustainably below 9% (2014: 8.1%) and FFO-adjusted leverage above 2x (2014: 1.7x). Delays or material unforeseen charges relating to large programmes could also have a negative rating impact.

An upgrade could follow a solid improvement in sustained cash generation, with FFO and FCF to revenue ratios of over 11% and 6%, respectively, an FFO-adjusted net cash position (adjusted for negative working capital) and a significant improvement in Airbus's currency mismatch position.

LIQUIDITY AND DEBT STRUCTURE
Strong Liquidity
At end-1Q15 Airbus had cash of EUR14.3bn, including investments (both short- and long-term) of EUR9.9bn and net of a EUR3bn adjustment Fitch has made for operational cash requirements. Short-term financing liabilities total EUR1.2bn. FCF generation, which was negative in 2013 and 2014 as a result of working capital built up, is not expected to be materially positive in 2015 due to continuous investment and working capital outflows, but may improve in 2016 as these pressures ease. Liquidity is bolstered by EUR3bn of long-term committed credit lines and good access to the capital markets, as illustrated by the October 2014 EUR500m 15-year bond and June 2015 convertible bond issuance. Airbus has no bond maturities until 2016 when a EUR1bn bond is due.

FULL LIST OF RATING ACTIONS
Airbus Group SE
Long-term IDR affirmed at 'A-', Outlook Stable
Short-term IDR affirmed at 'F2'
Senior unsecured rating affirmed at 'A-'
Commercial paper rating affirmed at 'F2'

Airbus Group Finance BV
Senior unsecured rating affirmed at 'A-'