Fitch Revises Outlook on Marston's Issuer Plc's Notes to Negative

OREANDA-NEWS. Fitch Ratings has revised the Outlook on Marston's Issuer Plc's class A and B notes to Negative from Stable and affirmed their ratings at 'BBB+' and 'BB+' respectively. The liquidity facility has been affirmed at 'BBB+'.

The revision of the Outlook to Negative is primarily based on the securitised estate's underperformance versus the Fitch base case and increased uncertainty around long-term profit forecasts due to material changes to the tenanted estate. The securitised estate's trailing-12-month (TTM) April 2015 EBITDA fell by 6.6% yoy (on a 52-week adjusted basis) to GBP117.8m whereas Fitch's base case assumed marginal growth. The decline has largely been driven by the tenanted business, as a consequence of the large disposal of weaker tenanted pubs (decline of 21.7% in the average number of tenanted pubs vs. 15.9% under Fitch's base case). This particularly affected class A metrics, as disposal proceeds have been used to repay the subordinate AB tranche, pay swap breakage costs and were partially reserved without deleveraging at the class A level.

The disposal of tenanted pubs primarily affected the Fitch-calculated class A metrics, as proceeds were used to repay the subordinated AB tranche, pay swap breakage costs and were partially reserved without deleveraging at the class A level. The repayment of class AB benefited the Fitch-calculated class B metrics but did not fully offset the impact on the sale of tenanted pubs. The Fitch-calculated credit metrics are still within the 'BBB' range as per Fitch's UK WBS criteria for the class A notes and the 'BB' range for the class B notes, but further deterioration could lead to a downgrade.

Fitch's updated forecast base case debt service coverage ratio (DSCR) is 1.6x for the class A notes and 1.4x for the class B notes (2014 forecast: 1.8x and 1.6x, respectively). The main drivers of the lowered forecast are:
- Significantly lower number of securitised pubs in the tenanted estate (although Fitch has given credit to the continuing conversion of tenanted pubs to the franchise model which is expected to result in higher growth).
- Overall increased uncertainty around long-term profit forecasts due to material changes to the composition of the tenanted estate following larger disposals and ongoing conversions to the franchise model (despite the positive trend highlighted above).
- For the managed estate: slightly lower growth expectations compared with 2014 due to the long-term trends in the UK economy and pub sector.

KEY RATING DRIVERS
Industry Profile - Midrange
Fitch views the operating environment as 'weaker'. While the pub sector in the UK has a long history, trading performance for some assets has shown significant weakness in the past. The sector is highly exposed to discretionary spending, strong competition (including from the off-trade), and other macro factors such as minimum wages, rising utility costs and potential changes in regulation (with the proposed statutory code in the tenanted/leased segment).

Regulatory uncertainty has reduced significantly following the enactment of the change in legislation governing the beer tie, which resulted in the introduction of a statutory code with a market rent only option (MRO). While the MRO breaks the tied model that requires tenants to buy beer from the pubcos, recent clarification that the MRO does not impact franchise pubs supports Marston's strategy to focus on the franchise model.

The barriers to entry are viewed as 'midrange'. Licencing laws and regulations are moderately stringent, and managed pubs and tenanted pubs (i.e., non-full repairing and insuring) are fairly capital-intensive. However, switching costs are generally viewed as low, even though there may be some positive brand and captive market effects.

We view the sustainability of the sector as 'midrange' with the strong pub culture in the UK expected to persist, thereby taking a large portion of the eating-drinking-out market. In relation to demographics, mild forecast population growth in the UK is a credit positive.

Company Profile - Midrange
Financial performance is viewed as 'midrange'. TTM EBITDA to April 2015 for the securitised estate fell by 8% (6.6% on a 52-week adjusted basis) to GBP117.8m from GBP128.5m.

We consider company operations to be 'midrange'. Fitch has given credit to management's strong pro-activeness in turning around its tenanted business, including being the first to launch the hybrid tenanted/managed pubs with their RA (franchise agreement) and tracker agreements. Results suggest that converted pubs experience a strong uplift in sales (double digit in many cases).

Fitch views transparency as 'midrange'. While financial reporting still follows the managed/tenanted format, without separating out the franchise pubs, there is still some uncertainty about the exact impact of increased franchise pubs on profitability and flexibility. However, information is sufficient to be able to form a view on key trends.

Dependence on operator is viewed as 'midrange'. Due to the large size of the estate, operator replacement is not viewed as straightforward but should be possible within a reasonable period of time.

We view asset quality as 'midrange'. The pubs are reasonably well-maintained. In the past few years, management has channelled disposal proceeds into debt repayment (repayment of the GBP80m AB facility in January 2014) and some capex. In the TTM to April 2015, Marston's spent GBP18m on maintenance capex for the securitised estate, which is above the covenant level and slightly higher than its peers, Spirit and M&B. The secondary market is reasonably strong.

Debt Structure: Class A: Stronger; Class B: Midrange
The debt profile is viewed as 'stronger' for the class A and B notes with all tranches being fully amortising. The liquidity facility covers almost two years of debt service. Positive factors include 100% fixed or hedged debt, although there is some derivatives MTM exposure.

Fitch views the security package as 'stronger' for the class A notes and 'midrange' for the class B notes. The security package is strong with comprehensive first ranking fixed and floating charges over borrower assets. Class A is the senior ranking controlling creditor, with the class B lower ranking resulting in a 'midrange' assessment.

Structural features are viewed as 'stronger' for Class A and Class B. Stronger features include a greater than 18-month liquidity facility, highly rated financial counterparties with adequate downgrade language and a clear orphan SPV. Marston's also benefits from a non-ambivalent set of covenants and moderate restricted payment and default covenants relative to the industry.

RATING SENSITIVITIES
The Outlook could be revised back to Stable if Fitch Base Case DSCR returns to 1.8x for class A and 1.5x for class B. This could be due to strong managed division growth, more pubs being introduced into the securitised perimeter (managed or tenanted / franchise) and continued success of the franchise model.

A further deterioration of the Fitch Base Case DSCRs (below 1.6x for class A and below 1.4x for class B) could lead to a downgrade.

SUMMARY OF CREDIT
The transaction is a securitisation of both managed and tenanted pubs operated by Marston's comprising 279 managed pubs and 1,006 tenanted pubs.

Contact:
Primary Analyst
Radim Radkovsky
Associate Director
+44 20 3730 1254
Fitch Ratings Limited
30 North Colonnade
London E14 5GN

Secondary Analyst
Shyamali Rajivan
Associate Director
+44 20 3530 1733

Committee Chairperson
Federico Gronda
Senior Director
+39 02879 087287

Media Relations: Francoise Alos, Paris, Tel: +33 1 44 29 91 22, Email: francoise.alos@fitchratings.com.

Additional information is available on www.fitchratings.com

Sources of information
The sources of information are the issuer and relevant publicly available information such as audited and unaudited financial statements and regulatory filings.

Applicable Criteria
Rating Criteria for Infrastructure and Project Finance (pub. 12 Jul 2012)
Rating Criteria for UK Whole Business Securitisations (pub. 22 Jul 2014)

Additional Disclosures
Dodd-Frank Rating Information Disclosure Form
Solicitation Status
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