OREANDA-NEWS. Fitch Ratings has affirmed Netherlands-based chemicals group Royal DSM N. V.'s (DSM) Long-Term Issuer Default Rating (IDR) at 'A-' with a Stable Outlook and Short-Term IDR at 'F2'. DSM's senior unsecured debt has also been affirmed at 'A-'.

The ratings reflect DSM's position as one of the world's leading specialty chemicals groups with significant market shares across its broad and deep portfolio of nutrition and performance materials products. DSM's sales are strongly diversified by geography and product, and exposed to the less cyclical nutrition animal and human nutrition segments.

Following its M&A activity over the past years, DSM is focusing on achieving cost savings and efficiencies by 2018, although this has yet to contribute to improvements in margins and free cash flow (FCF). The ratings are constrained by DSM's end-use market concentration, and exposure to economic cycles, volatile input prices and FX markets.

KEY RATING DRIVERS

Global Player in Nutrition Markets

DSM's recent transformation through a series of selective acquisitions and divestures has resulted in a further shift towards the nutrition segment which, as with less cyclical specialty chemicals, tends to be more stable in pricing and margins.

DSM's revenue structure is diversified geographically, with a strong presence in most sub-sectors of human and animal nutrition. Long-term fundamentals of the markets remain strong, including population growth, food consumption growth, dietary shifts, and increasing health concerns. Short - and medium-term market risks include overcapacity in selected (e. g. vitamin C and E) markets that may lead to pricing pressure, and FX swings.

Divestures Off, Optimisation On

DSM exited from most of its lower-margin or more volatile commodity chemicals businesses by end-2015. In particular, DSM has reduced its shares in its pharmaceutical, antibiotics and bulk chemical businesses, all now partly owned as off-balance sheet joint ventures (JVs). We expect the company to succeed in achieving its target to extract value from its JVs through either upstream dividends or stake disposals. As two of three JVs were formed over the past two years, 2015 was the first year when DSM received substantial dividends from them. As the visibility remains limited on both the timing and means of JV value extraction, we have assumed cash inflows from JVs to be in the form of modest dividends to DSM, on top of around USD240m cash proceeds related to the Patheon N. V.'s IPO and expected later in 2016.

Following its divestment spree over 2014-2015, DSM is now focusing on cost savings initiatives across its segments requiring up to EUR230m one-off costs during 2015-2017. The measures should achieve EUR250m-EUR300m of annual cost savings by 2018 versus the 2014 baseline level. While EUR25m of cost savings were delivered in 2015, we conservatively apply a 50% cut to our forecast of DSM's cost savings.

Volumes, Savings to Drive Performance

DSM's 2018 strategy to deliver high single-digit EBITDA growth relies on above-market (i. e. mid-single digits) volumes growth and cost savings. We expect volume growth, 2015 divestments, and future cost savings to drive DSM's Fitch-defined EBITDA margin to above 15% by 2019, from 11%-13% in the recent past. In the nutrition segment we conservatively forecast 2.5%-3% volume growth and flat pricing.

Increased operational cash flows, coupled with assumed moderate capex and low single-digit growth in dividends, should result in positive, albeit small, FCF, compared with neutral-to-negative FCF previously. This should lead to deleveraging to within Fitch's rating guidelines by end-2017. Divestment of DSM's JVs could accelerate deleveraging, while residual one-off derivatives-linked outflows could decelerate it.

2015 One-Offs Delay Deleveraging

DSM's funds from operations (FFO) adjusted net leverage significantly exceeded our guideline of 2x for the second year in 2015. This was due to expected interest rate payments and less-expected currency derivative settlements, which caused significantly above-FFO outflows at times of FX volatility and declining euro and Swiss Franc policy rates.

Fitch's latest Global Economic Outlook expects limited further FX or policy rate volatility. This, coupled with reduced reported end-2015 derivative fair values and sensitivities, means further significant derivative-linked outflows are unlikely in 2016 and thereafter.

KEY ASSUMPTIONS

Fitch's key assumptions within our rating case for the issuer include:

- Cash inflows from JVs limited to moderate upstream dividends over the next three years;

- Low single-digit organic revenue growth from 2016;

- EBITDA margin above 17% in nutrition and 15% in performance materials in 2016 and thereafter;

- Cost savings discounted at 50% while one-off restructuring costs are conservatively set in full;

- Low single-digit growth in dividends and EUR150m annual share buybacks starting from 2017;

- Capex-to-sales at 6.5%;

-No further significant M&A activity.

RATING SENSITIVITIES

Positive: Future developments that may, individually or collectively, lead to positive rating action include:

- Deleveraging with FFO adjusted net leverage sustained at or below 1x (end-2015: 3.2x);

- Improved operational profile resulting in stronger end-market diversification and high exposure to specialty chemicals on a sustained basis

Negative: Future developments that may, individually or collectively, lead to negative rating action include:

- Failure to deleverage resulting in FFO adjusted net leverage exceeding 2.5x in 2016 and 2x in 2017;

- An underlying EBITDA margin consistently below 10%.

LIQUIDITY

As of end-2015 short-term maturities of EUR253m were more than covered by cash of EUR665m and undrawn committed credit facilities of EUR1bn. Additionally, the company has at its disposal a commercial paper programme of up to EUR1.5bn (EUR231m outstanding as of end-2015). DSM's debt structure comprises EUR-denominated bonds, the bulk of which mature after 2021.