The FINANCIAL — The ‘Swiss Credit Handbook 2015’ published on August 25 by Credit Suisse contains the credit profiles of the most important Swiss issuers and participants in the Swiss franc capital market. Assessments of the creditworthiness of the different entities covered by Credit Suisse credit analysts – such as Swiss corporates, utilities, cantons and cities – are provided in the handbook. It thus encompasses a wide range of borrowers that are not covered by large international credit rating agencies and also examines the outlook for selected issuer industries.
The global economy grew by 3.2% in 2014, with emerging markets outpacing mature markets once again. Swiss corporates benefited from this global growth as well as the impacts of their own cost and efficiency measures. Against this backdrop, a large proportion of these companies delivered an increase in revenues, driven by volume growth and better prices. In some cases, acquisitive growth also contributed to the rise in revenues. In contrast, pressure from the strong Swiss franc weighed on reported sales. Solid profit trends continued, following adequate top-line growth and the positive impact of leaner cost structures. More than half of the companies covered by Credit Suisse credit analysts reported a higher adjusted EBITDA margin than in the previous year. Those that saw margins weaken in 2014 were mainly active in the utilities sector or were severely impacted by the strong Swiss franc and European competition. Although only half of the companies were able to generate a stronger profit margin in 2014 compared to the prior year, over 80% of the companies covered in the handbook maintained or increased their dividend payouts in 2014. Furthermore, some large share buyback programs are currently underway. The analysts expect to see another increase in share buybacks in 2015, which clearly shows the current shareholder focus. Overall, Swiss corporates have a solid liquidity position, with available cash on hand and unused credit lines. Hence, the stable outlook across around 80% of the companies covered (more than 90% if Swiss utilities are excluded) confirms this solid liquidity situation. Only one company currently has a positive outlook; this reflects the fact that corporates are tending to use improving credit metrics to enhance their shareholder focus or to carry out acquisitions rather than striving to achieve higher ratings, according to Credit Suisse.
The never-ending FX story
The Swiss franc has strengthened against major global currencies for several years, reflecting the strong economic environment in Switzerland and the further weakening of foreign currencies due to the actions of central banks around the globe. As a result, Swiss companies that report sales in Swiss francs were substantially impacted by FX headwinds, while profits were only partially affected thanks to a natural hedge on the cost side. Swiss companies included in the ’Swiss Credit Handbook 2015’ are generally in a solid position and downgrades in recent years were not solely related to the strong Swiss currency. The decision taken by the Swiss National Bank (SNB) at the beginning of 2015 to abolish the minimum EUR/CHF exchange rate led to a substantial widening of credit spreads, as CHF swap rates moved into negative territory. The market has since adapted to these new conditions and spreads have contracted back to very tight levels. Hence a sharp credit sell-off does not appear likely unless there is a deterioration in credit conditions or a sharp increase in risk aversion globally. Companies that already have a negative outlook will certainly remain under pressure for the time being for various reasons. Credit Suisse analysts are watching for companies that are not only exposed to FX effects but also to transactional impacts, i.e. that have a mismatch of costs and revenues in CHF. Traditionally, Swiss exporters have a high CHF cost base, resulting in further pressure on profitability. That said, Credit Suisse credit analysts note that investment grade companies generally have a broadly diversified business profile across sectors, regions and products. In the coverage universe, those exporters in the capital goods sector and the Swiss utilities most affected by this issue are highlighted.
Utility sector remains in the spotlight
After the number of issuers included in the ’Swiss Credit Handbook 2014’ exceeded the 100 threshold, the 2015 edition features even more companies – with a total of 109 issuers now covered. Eight new corporates (Allreal, Cembra Money Bank, Geberit, Implenia, HIAG, Klinik Hirslanden, Services Industriels de Geneve and Transport Public Genevois) are included in the new handbook, while Nobel Biocare was removed from the coverage universe after the company was taken over by Danaher and delisted. Credit ratings have remained relatively stable, in line with the outlook provided in last year’s publication. Since the last handbook was issued in August 2014, there have been seven rating downgrades (three if Swiss utilities are excluded) and three upgrades. The downgrading of Axpo followed substantial impairments on its production assets and a continued weak outlook. Alpiq also posted a higher-than-expected net loss as well as a substantial decline in profitability and cash flow generation, resulting in an change of outlook from stable to negative. Only recently, Repower issued a profit warning and indicated that it expects to record another substantial drop in profits, as well as a large net loss following impairments. The rating is currently under review for potential downgrade. The only positive surprise in the sector was the better-than-expected results posted by BKW in 2014. Outside the utilities sector, the business transformation at Arbonia Forster Group (AFG) resulted in a downgrade to sub-investment grade earlier this year. The company is being severely impacted by low-price competition in Europe and the strong appreciation of the Swiss franc. Another downgrade is Meyer Burger to Low B, the lowest rating across all Swiss companies in the ’Swiss Credit Handbook 2015’. The company has continued to burn substantial cash at operating level and the outlook has not improved substantially. Swiss Prime Site was upgraded in view of its stronger balance sheet, combined with a better diversified business profile. The higher rating of Flughafen Zurich is attributable to solid earnings and the expectation that the company will further improve its credit metrics. In the public sector, the rating of the Canton of Appenzell-Ausserrhoden has been downgraded after another year of stretched financials and expected budgetary challenges, while the rating of the Canton of Berne has been revised upward.
Cost savings set to influence FY 2015 results
Although the Credit Suisse credit analysts still expect to see relatively solid growth coming from emerging markets, the global macroeconomic picture is somewhat more volatile compared to previous years. Uncertainty about the economic recovery in Europe is weighing on investment activity and affecting the expansion plans of many corporates. A large number of companies are continuing to grow their top lines only moderately as a result of global growth, as mentioned previously. Profit margins will most likely be supported by cost savings, with many companies currently running efficiency programs. Competition will remain strong and could weigh on pricing to some extent. Capital spending will be roughly on par with 2014 levels. If opportunities arise, companies will most likely carry out acquisitions and further strengthen their shareholder focus. The majority of credit outlooks remain stable, further underpinning the expectation of a sideways trend in credit quality. A negative outlook trend continues within the Swiss utility sector.
Credit spreads remain very tight
Credit spreads in Switzerland widened after CHF swap rates fell into negative territory following the SNB’s decision to abolish the minimum EUR/CHF exchange rate. After market participants adapted to the new environment and banks began charging investors holding large volumes of liquidity in bank accounts, the demand for fixed income investments increased again – resulting in tighter spreads. Although Credit Suisse analysts do not see significant potential for a further tightening of spreads, they continue to take a positive view of valuations. Their recommendation to stay invested in lower-rated corporates remains unchanged, although they believe there is a clear need for a detail credit assessment of these companies, as not every single lower-rated corporate automatically offers an attractive yield. In particular, the international high yield segment started to diverge over the past month, highlighting the need for a credit assessment to reduce volatility and avoid defaults. The sentiment on subordinated debt for Swiss insurance companies is still positive, thus suggesting some outperformance potential versus senior bonds. Credit Suisse credit analysts also recommend investing in corporate hybrid bonds from Swiss issuers that have at least an investment grade rating at a senior level. Swiss utilities continue to offer the widest spreads among corporates but also the weakest fundamental outlook and continued uncertainty.