OREANDA-NEWS. Fitch Ratings has upgraded French building materials group Lafarge SA's Long-term Issuer Default Ratings (IDR) and senior unsecured rating to 'BBB-' from 'BB+'. All ratings have been removed from Watch. The Outlook is Positive.

The upgrade of the ratings reflects Lafarge's strong strategic ties and pending operational integration with Holcim Ltd (BBB/Stable), following the completion of the merger between the two companies to create LafargeHolcim. Fitch maintains a one-notch differential between the two companies, because Holcim does not currently guarantee Lafarge's substantial debts that have no recourse to Holcim assets and also due to a lack of cross-default to Holcim.

The Positive Outlook reflects the potential reduction of Lafarge's debt, which may result in an alignment with Holcim's ratings. In particular, the ratings could be upgraded if Lafarge's standalone leverage is commensurate with a 'BBB' rating and/or if Fitch can safely assume that Holcim would support Lafarge in servicing its debt provided such debt is low relative to its cash generation.

KEY RATING DRIVERS

Disposals to Improve Leverage
Proceeds from the sale of the global portfolio of assets to CRH, if used to repay debt, will improve the combined group's financial flexibility, by enhancing its credit metrics. The higher-than-expected proceeds from the disposal will help mitigate a weaker-than-expected recovery in recent quarters.

Strong Business Profile
The announced merger between Holcim and Lafarge will create the world's largest building materials company, with combined pro-forma net sales of CHF33bn (EUR27bn) in 2014. It will hold number one market positions in cement, aggregates and ready-mix products and benefit from the individual companies' complementary asset base in Latin America and Africa & Middle East.

Synergies
Management aims to reap CHF1.7bn (EUR1.4bn) in run-rate synergies after the end of the third year after the merger through best practice and cross-utilisation, cost savings and optimal capex allocation. In addition, the group plans to implement CHF500m (EUR410m) in working capital savings over the same period. These measures will support the credit profile of the combined group in the long-term, although their associated costs will offset benefits in the near-term.

Cost Savings
We expect healthy cost savings at both Holcim and Lafarge to mitigate inflationary pressures in 2015. Following severe cost inflation pressures in emerging markets in 2014 we expect the combined group to offset some of the margin losses through price increases due to healthy volume growth.

RATING SENSITIVITIES

The ratings could be upgraded if Holcim extends an unconditional and irrevocable guarantee to Lafarge's debt or a cross-default mechanism is implemented. The ratings could also be upgraded if Lafarge's debt is materially reduced to an extent whereby stand-alone leverage is commensurate with a 'BBB' rating and/or if Fitch can safely assume that Holcim would support Lafarge in servicing its debt provided such debt is low relative to its cash generation.

The ratings could be downgraded if LafargeHolcim's IDR was downgraded, which could happen if EBIT margin is below 10%, FCF is negative and FFO gross and net leverage is above 4.0x and 3.5x, respectively.

LIQUIDITY

Lafarge's total liquidity of EUR4.9bn as of end-March 2015 included EUR1.8bn of cash (excluding around EUR150m of restricted cash as per Fitch adjustment) and EUR3bn of undrawn committed credit lines. This compares with EUR2.7bn of debt maturing in the next 12 months. The group's average debt maturity is three years and 11 months, with an average interest rate of 6.3%.

KEY ASSUMPTIONS FOR THE COMBINED GROUP

-Moderate revenue growth and EBITDA margins broadly stable at around 20%
-Continued dividend distributions in line with previous years
-FCF generation of around CHF500m per annum
-Use of EUR6.5bn in proceeds from the disposal of assets to CRH to fund merger-related transactions and repay debt
-Continued smaller M&A