OREANDA-NEWS. Fitch Ratings has affirmed Germany-based engineering company GEA Group Aktiengesellschaft's (GEA) Long-term Issuer Default Rating (IDR) and senior unsecured rating at 'BBB' The Short-term IDR has also been affirmed at 'F2' The Outlook is Stable.

The affirmation reflects our expectations that GEA's key credit metrics will remain commensurate with the current ratings despite weaker market conditions over the next 18 months. Fitch expects weakness in emerging markets and the dairy sector to persist until end 2017. Restructuring measures taken in the past two years and steadily increasing service revenues will reduce earnings volatility despite our lower revenue expectations.

KEY RATING DRIVERS
'BBB' Business Profile
GEA's business profile is supported by strong positions in niche mechanical engineering markets, geographical diversification and revenue exposure to stable food and beverage end-markets and high-growth emerging markets.

Service revenues (29% at LTM end-3Q15) provide stable income and mitigate the inherent volatility of the company's end markets. The Heat Exchanger (HX) disposal in 2014 significantly improved GEA's business profile by reducing its exposure to the fragmented and competitive HX end-markets and increasing exposure to stable food and beverage markets to 72% of revenues in 3Q15 from 43% in 2009.

Leverage Commensurate with Ratings
Gross debt has reduced substantially following the partial payment of GEA's EUR400m 2016 bond and EIB loan payments. Funds from operations (FFO) adjusted net leverage improved to -0.44x at end-2014 from 2.7x at end-2011. Fitch however expects leverage metrics to increase over the medium term as management intends to spend the cash proceeds from the HX sale either on bolt-on acquisitions or on shareholder-friendly policies. However, we still forecast leverage metrics to remain commensurate with current rating levels with FFO adjusted net leverage trending to 1x over the medium term.

Acquisitions leading to a more diversified end-market exposure and profitability will further improve GEA's business profile. Fitch believes that the acquisition/shareholder-friendly policies are in their early stages, and medium-term implementation of these strategies will be key to GEA's business and financial profile.

Growth Forecasts Cut
Fitch has cut its revenue growth forecasts for 2016 and 2017, reflecting weaker-than-expected end-market demand. CAPEX is still under pressure in both emerging markets and the dairy sector, as illustrated by a decline in GEA's order intake of 8.5% in 3Q15. Prospects for a sharp pick-up in demand is limited for 2016, as Fitch expects continued stress in the next 18 months, driven by tightening monetary policies. Despite lower volumes, we expect Fitch adjusted EBIT margins to reach 10% in the medium term, driven by GEA's Fitfor2020 programme and its target of EUR125m cost savings by 2017.

Prudent Acquisitions
We consider credit-positive management's cautious approach to acquisitions, focusing on small- to mid-sized acquisitions in the double-digit growth region, where it has had a good track record in managing the integration of small- to medium-sized targets. The size of the companies acquired (ScanVibro, Klokslag, Hilge, CMT, Comas) does not pose a significant risk to GEA's balance sheet.

Dairy Weakness Cyclical
Fitch believes that the current market conditions in dairy (38% of GEA revenues) markets are cyclical. Although we believe that over supply is likely to persist for at least another 18 months, long-term demand fundamentals are still favourable for the market. Dairy consumption levels are steadily increasing and will support volume growth once the consolidation of suppliers is complete.

Strong Liquidity
Liquidity continued to be strong in 3Q15, with a cash balance of EUR872m, various bilateral credit lines totalling EUR127m and a fully undrawn EUR650m syndicated credit facility. The proceeds from the HX disposal provide a significant cash buffer for additional acquisitions and for the remaining payment of EUR275m of GEA's 2016 bond.

KEY ASSUMPTIONS
Fitch's key assumptions within the rating case for GEA include:
- Emerging market weakness to continue until late 2017
- Dairy market stress persists over the short-term, but fundamentals favourable over the long-term
- Continued bolt-on acquisitions
- Increased shareholder returns

RATING SENSITIVITIES
Positive: Future developments that may result in positive rating action are:
- Increased scale and diversification in stable and profitable businesses
- FFO margin above 10% (2014: 10.2%)
- Free cash flow (FCF) margin above 4% (2014: 4.2%)

Negative: Future developments that may result in negative rating action are:
- Evidence of aggressive acquisitions or investments in competitive or volatile markets
- FFO adjusted net leverage above 2x (2014: -0.44x)
- FFO margin below 8%
- FCF margin below 2%.