OREANDA-NEWS. Fitch Ratings says that leverage has weakened for Intralot S.A. (Intralot; B+/Negative) following significant cash outflows in 9M15, eliminating any headroom previously available under its negative rating guidance. The possibility of a downgrade over the next six months has therefore increased if we see sustained cash outflows eroding the liquidity buffer, not compensated for by substantial operating outperformance or any further announcements, for example around potential disposals. At present a downgrade could be limited to one notch.

Operating performance for the nine months to September 2015 was challenging, resulting in slight pressure on profit margins. However, Intralot reported a mild increase in sales and better margins in 9M15 adjusted for some discontinued and non-recurring businesses. Importantly, Intralot reported cash out of around EUR100m related primarily to increased working capital linked to regulation in Italy and suppliers' payment normalisation, higher than usual minority dividends, FX impacts and bond buy-backs, which have weakened credit metrics. Fitch now expects funds from operations (FFO) adjusted net leverage to exceed 5.0x in FY15, above our negative rating guidance of FFO adjusted net leverage over 4.0x, likely returning to 4.0x-4.2x by FY16 which, if maintained, would not be commensurate with a 'B+' rating.

Although a large portion of the increase in working capital and minority dividends appears to be one-off in nature, we now expect free cash flow to be negative in 2015 and only barely recovering to the low single digits thereafter. Any further cash leakage will therefore be negative for the rating.

Financial flexibility is also constrained and we now expect FFO fixed charge cover to weaken towards 1.7x (below the 2.0x considered compatible for a 'B+' IDR) in FY15 and gradually recover in FY16 assuming a normalisation in minority dividends leakage, albeit with lower headroom.

We view execution risk as elevated and moderate, as the group attempts to expand into new geographies, exposing Intralot to greater risks and potentially lower margins as competition increases and governments tighten contract terms. If we see evidence that new contracts or renewals are occurring at materially less favourable conditions, leading to lower EBITDA margin of under 9% (currently approximately 9.5%), or large upfront concession fees or capex outlays, this could also be negative for the rating.