Iceland - Never too early to think about refinancing
All,
Please find our updated model here.
Our analysis of Iceland has moved on to the pertinent question of how Iceland will refinance its March 2025 bonds. FY24 numbers (year ending March 2024) will still show leverage higher than when they launched the 2028 bonds, albeit, the reference EBITDA was boosted by Covid-related sales. To maintain a 1.5-2.0x interest cover at a refinancing rate of 7-9.5% coupon (depending on the cover), our model suggests debt capacity is c.£650m, which, with a minimum cash balance of £80m, is c.95% recovery. However, this does not mean we should sell the bonds at the moment, and there are options available to the Company to improve its situation. We are maintaining our 5% long position in the 2025 bonds for now.
Investment Rationale:
- We acknowledge there is limited upside in the name and would seek to exit the name over the next three months on the back of some momentum. We expect the Company will buy back bonds between now and year-end. The Company are not expected to report their FY23 numbers until July, giving 5 months of carry with limited news. We expect further positive Kantar numbers over the next couple of months which will aid the name.
- Concerns relating to Iceland's liquidity are overdone, and we don't envisage Iceland drawing on its RCF at all over the next 18 months. The size of any buybacks is unlikely to be significant but the indication to the market will be strong.
- Although no maturity until March 2025, refinancing talk will commence in 12 months. As discussed above this will be difficult but there are other options available to the Company.
Refinancing Options:
- Option A: Company to suggest an amendment and extend to the 2025 bonds, increasing the probability of success by offering a partial paydown. We would see it possible to extend maturities to 2027, still ahead of the 2028 bonds (which are pari-passu) giving the Company a couple more years of deleveraging and giving holders a longer-dated paper that will still likely trade below par, but that trades as a package somewhere in the mid-90s (aka Stada). The company has the cash to sweeten that deal and by then this should be standard procedure.
- Option B: Buybacks: There is the possibility of buybacks in the short to medium term. The Company hinted at this during the call. Our model envisages strong cash balances over the next 15 months to March 2024, with balances above £200m. The business needs c.£80m to operate, especially now they have secured an increase to their RCF (from £20m to £50m, which is undrawn). Any buybacks would lower the interest bill over the year, plus the additional capture of the current discount to par.
- All of the above are our assumptions and the Company is likely to be working off a base case of simple refinancing of the 2025 bonds sometime in 2024.
Guidance:
- Iceland stated, "we are confident that our EBITDA in FY24 will be above that achieved in FY22". We don't share that optimism but do see EBITDA improvement throughout FY24, albeit slightly missing this target. This is due to give-up of the "selling margin" in FY24 as energy prices reduce. Using FY22 EBITDA as an estimate of FY24, debt capacity increases to c. £700m, sufficient to easily refinance the bonds.
- Nearer term guidance is reported EBITDA will finish the year (March 23) in the £110-120m range (our model is £106m), and the Company are guiding year-end cash position to be slightly higher year on year, with net debt to reduce similar to our expectations.
Energy Prices:
- The biggest driver of the difference in projections is the impact of the pullback of energy prices on FY24 performance. The change in energy prices has cost Iceland c.£80m YTD, with the full-year impact likely to be close to £100m.
- We aren't as optimistic as Iceland's management is in the ability to reduce energy costs in FY24 over FY23. The Company expect to see a 20% reduction in energy bills in FY24 versus our model of c.13%.
- Although there are always further ways to reduce waste and be more energy efficient, energy has always been a large cost for Iceland, and we suspect the easy cost savings measures have already taken place.
- Our model assumption, based on energy prices visible in the market, assumes static energy use per store and the 13% reduction is driven by the forward curve with no hedge mitigation.
Other Housekeeping:
- Iceland increased its RCF availability from £20m to £50m and more importantly received a waiver to the minimum EBITDA covenant which would have limited its availability. The full £50m is currently undrawn and fully available. Note: We don’t envisage this to ever be drawn, but the existence of the facility increases the confidence of management to do bond buybacks and more importantly that of suppliers to continue delivery.
- Last week there was an article referencing the withdrawal of credit insurance from the supplier market, namely Coface. The Company disclosed that c.£150m of their £600m payables book currently uses credit insurance, with Coface accounting for c.£15-20m. They have not seen any impact of this from their suppliers and currently enjoy the same payment terms as before.
- The Company are in the process of transitioning the accounting standards to IFRS from FRS 102 (welcome lease accounting!). But the process is likely to mean they will miss the deadline for fully audited numbers to be completed by the 120 days of year-end, as specified in the bond indenture. Therefore they will be seeking a waiver (no fee, this is Iceland after all) to this requirement. However, the Company will maintain their July reporting in line with prior years and have statutory FRS 102 accounts presented via a management presentation on Wednesday 5th July.
Happy to discuss.
Tomás
E: tmannion@sarria.co.uk
T: +44 20 3744 7009
www.sarria.co.uk