OREANDA-NEWS. S&P Global Ratings today lowered to 'B-' from 'B' its corporate credit rating on Netherlands-based do-it-yourself (DIY) retailer Maxeda DIY B. V., which operates across the Benelux region.

At the same time, we also lowered the issue rating to 'B-' from 'B' on Maxeda's senior secured term facilities, which comprise a €20 million revolving credit facility (RCF) and €484 million of term loans. The recovery rating on the debt is unchanged at '4', indicating our expectations of recovery prospects in the higher half of the 30%-50% range.

The downgrades reflect our view that the prospect of Maxeda experiencing a quick recovery, which we had factored into the previous rating, has diminished due to our expectations of a more prolonged period of soft operating conditions. We now expect management's turnaround plan to deliver a slower recovery, and have therefore revised our assessment of Maxeda's business risk profile to weak from fair, albeit at the higher end of the category.

We anticipate that Maxeda will maintain its position as the leading DIY retailer in Belgium and No. 2 in The Netherlands. That said, we expect competition will remain heightened and will be exacerbated by the continued consumer shift to online. As a result, we expect margins to remain under pressure over the next two years, during which Maxeda will face continued additional cash flow pressure from business restructuring costs and elevated capital expenditure (capex). At the same time, we do not expect the company to derive the full benefit of the operational efficiencies created by management's turnaround plan in the near term. Maxeda's modest overall scale and limited diversity also weigh on our assessment of its business risk.

We continue to view Maxeda's financial risk profile as highly leveraged. In the past 12 months, the company successfully completed an extension of its senior loan facilities and reset its financial covenants. During the period, all subordinated debt was converted to equity, such that subordinated lenders became controlling shareholders in Maxeda's indirect parent, Maxeda DIY Group B. V. We expect credit measures will improve in the fiscal year ending Jan. 31, 2017, with adjusted debt to EBITDA of about 5.5x and funds from operations (FFO) to debt of about 10%. However, in our view, Maxeda's financial risk profile will continue to be burdened by negative free operating cash flow (FOCF) stemming from continued market pressures coupled with cost inflation, ongoing restructuring costs, and elevated capex.

In addition, we forecast that Maxeda's EBITDAR (EBITDA before rent costs) coverage will remain at about 1.3x in fiscal 2017, which places Maxeda at the weaker end of peers with a highly leveraged financial risk profile. Our base case also anticipates tightening covenant headroom against step-down covenants, particularly from June 2017.

Our base-case scenario assumes:Declining GDP growth in both Belgium and the Netherlands, with our forecast GDP of 1.4% in 2016 and 1.1% in 2017 for Belgium; and 1.8% in 2016 and 1.4% in 2017 for The Netherlands;Relatively flat revenue growth in 2017 and 2018 of 1%-2%, supported by selective store expansion in existing markets;EBITDA margin expansion of 50-100 basis points over the next two years, fueled by continued realization of cost improvements together with declining restructuring, transformation, and exceptional costs; andCapex of €35 million-€45 million per year. Based on these assumptions, and following the expected completion of the refinancing transaction, we arrive at the following credit measures over 2016 and 2017:

FFO to debt of 7%-12%; Adjusted debt to EBITDA of between 5.0x-5.5x; EBITDAR coverage (which we use as the key supplementary ratio) of 1.2x-1.4x; andFOCF to remain negative in the near term. The stable outlook reflects our view that the company will continue to execute its turnaround plan, albeit over a prolonged recovery period. It also reflects our expectation that Maxeda will appropriately manage tightening covenant headroom and maintain its current sufficient cash position despite the challenging trading environment.

We could lower the ratings if the company's liquidity were to deteriorate, which is likely to be reflected in an accelerated reduction of its cash balance. This scenario could occur as a result of a prolonged period of weak trading conditions and could be evidenced by the company's EBITDAR coverage ratio falling below 1x. Any tightening covenant pressure, or if we were to believe the company's capital structure were to become unsustainable, would also likely place further pressure on the rating.

For us to raise the rating, we would need to see a material improvement in business conditions that led to sustainably stronger financial metrics and positive FOCF, with Maxeda maintaining adequate liquidity. This could be evidenced by the strengthening of the EBITDAR coverage ratio toward 1.5x. A meaningful reduction in the company's debt would also support the likelihood of an upgrade.