OREANDA-NEWS.  Fitch Ratings expects the severe deterioration in Brazil's macroeconomic environment to continue to challenge operating profitability of Brazilian retailers in the short to medium term. Fitch expects some margin compression during the second half of 2015 and early 2016 while retailers adjust their operations to weak demand levels.

Companies are likely to stimulate demand by dropping prices and avoiding additional inventory markdowns. Weak consumer confidence remains, pressuring sales volumes and forcing retailers to drop prices to entice consumers. Competition has intensified as a result of strong supply and demand imbalances, which Fitch believes will widen further.

Fitch also forecasts cash flow from operations of Brazilian retailers to weaken meaningfully. The scenario of increasing interest costs combined with higher working capital needs, mainly driven by excessive inventories, is likely to put pressure on operating cash flow in the coming quarters. Most Brazilian retailers still have some operational flexibility to limit FCF erosion by reducing discretionary capex.

Fitch expects some pressure on weaker retailers' ratings in the near term, especially on companies with higher refinancing needs, volatile demand levels and tight operating margins, including Profarma and Martins. Companies that operate in more defensive businesses and display an above average financial discipline, such as CBD and Lojas Americanas, are less susceptible to rating downgrades through economic cycles. However, lower credit availability and higher interest rates will continue to challenge the liquidity and profitability of these retailers. Keeping a healthy financial flexibility is key to maintaining the sector's ratings in the medium to long term.