Fitch Affirms Arca Continental at 'A' and Upgrades Lindley to 'BBB+'

MONTERREY, Mexico & CHICAGO--()--Fitch Ratings has affirmed Arca Continental, S.A.B. de C.V.'s (Arca Continental) ratings as follows:

--Long-term Foreign Currency Issuer Default Rating (IDR) at 'A';

--Long-term Local Currency IDR at 'A'.

--National Long-term Rating at 'AAA(mex)';

--National Short-term Rating at 'F1+(mex)';

--Local Certificados Bursatiles Issuances at 'AAA(mex)'.

The Rating Outlook is Stable.

Fitch has upgraded Corporacion Lindley S.A.'s (Lindley) ratings as follows:

--Long-term Foreign Currency Issuer Default Rating (IDR) to 'BBB+' from 'BBB-';

--Long-term Local Currency IDR to 'BBB+' from 'BBB-';

--Senior Unsecured Senior notes due in 2021 and 2023 to 'BBB+' from 'BBB-'.

The Rating Outlook is revised to Stable from Positive.

The upgrade of Lindley's ratings reflects the strong operational and strategic ties with Arca Continental. Through application of Fitch's Parent and Subsidiary Rating Linkage methodology, Lindley's ratings benefit from a three-notch uplift above its standalone credit profile of 'BB+'.

KEY RATING DRIVERS

Arca Continental

Solid Market Position:

Arca Continental's ratings are supported by its solid business position as the third largest bottler of Coca-Cola products in the world with operations in Mexico, Argentina, Ecuador and Peru. In Peru the company has a 60% stake and The Coca-Cola Company (TCCC)has a 39% interest. The company's competitive advantages have contributed to the company maintaining a leading market position in the territories where it operates through its extensive distribution network, diversified portfolio of products, continuous innovation in products and presentations, and heavy investment at the point of sale. Additionally, Arca Continental has a complementary sweet and salty snacks business with a diversified portfolio of products under the brands Bokados in Mexico, Wise in United States, and Inalecsa in Ecuador. This business represents around 7% of its total consolidated revenues.

Geographic Diversification:

The ratings reflect the geographic diversification of Arca Continental's operations which contributes to lower business risk and cash flow volatility. During 2016, weaker operating performances from its operations in Argentina and Ecuador have been compensated with positive trends in Mexico and Peru. For the last 12 months as of June 30, 2016, the company's revenues and EBITDA generated outside Mexico represented around 43% and 35%, respectively, of its consolidated figures. In addition, Fitch expects that Arca Continental will expand its geographic footprint to the U.S. after reaching a final agreement with TCCC and Coca-Cola Bottling Company UNITED to refranchise the bottling operations of Texas and parts of Oklahoma, New Mexico and Arkansas. This transaction is expected to be completed in the first half of 2017.

Good Operating Performance:

Arca Continental's operating performance is expected to continue growing despite the challenges in the territories of Argentina and Ecuador. Fitch forecasts that the company's consolidated revenues will grow around 17% in 2016 mainly due to the integration of Lindley's full year results and solid performance in Mexico associated to a positive consumer environment and execution at the point of sale. Downsize pressures in Argentina due to economic changes of the new government should ease over the midterm, while the implementation of a new sugar beverage tax Ecuador will negatively impact the volumes in the short term. Fitch expects Arca Continental's profitability will remain relatively stable with an EBITDA margin around 21% in 2016 and 2017.

Low Leverage:

Fitch projects that Arca Continental's total debt-to-EBITDA and net debt-to-EBITDA will strengthen by 2017 to 1.3x and 1.0x, respectively. After the acquisition of Lindley the company has been able to reduce its debt from MXN42.8 billion at the end of September 2015 to MXN32.4 billion as of June 2016, supported by an equity issuance of MXN7.4 billion, sales of assets for MXN1.6 billion and use of available cash balances. Also in April 2016, its subsidiary Lindley repurchased in the market USD200 million of Lindley's outstanding senior notes. For the last 12 months as of June 30, 2016 Arca Continental's total debt to EBITDA estimated by Fitch was 1.8x, while its net debt to EBITDA was 1.5x. Fitch does not expect a material effect on Arca Continental's capital structure after the recent agreement to merge the bottling operations in the U.S. However, a significant variation from expectations once the final conditions are disclosed could pressure the ratings.

Strong FCF:

Fitch expects Arca Continental's FCF generation to remain positive in 2016 and 2017. The company's internal FCF has been historically sufficient to cover working capital requirements, capex and dividends payments. Fitch estimates that Arca Continental will have annual FCF generation capacity around MXN3 billion. In its base case projection, Fitch incorporates that the company's capex for 2016 and 2017 will be around MXN7 billion and MXN7.5 billion, respectively, while the annual dividend payments will be in the range of MXN3.1 billion to MXN3.3 billion. For the last 12 months as of June 30, 2016, Arca Continental's FCF as estimated by Fitch was around MXN2.7 billion.

Lindley

The 'BBB+' ratings of Arca Continental's subsidiary Corporacion Lindley reflect the following:

Strong Operational & Strategic Ties with Arca Continental

Fitch believes that the operational and strategic linkages are strong between Lindley and its 60% common shareholder, Arca Continental. TCCC holds 39% of Lindley's shares and 9% of Arca Continental. Both Arca Continental and TCCC are actively involved in managing Lindley as a result of Arca Continental's controlling ownership stake and the majority of seats on the company's Board of Directors, as well as TCCC's financial oversight of appointing Lindley's chief financial officer. Fitch believes it is likely that some form of tangible support would be forthcoming to Lindley in the event the company's financials would come under stress. Arca Continental consolidates 100% of Lindley because of the majority ownership. Fitch expects Lindley will contribute around 15% to Arca Continental's consolidated revenues and 16% to both volumes and EBITDA during 2016.

Improving Net Leverage:

Lindley's net leverage estimated by Fitch was 3.2x as of the LTM ended June 30, 2016 is a marked improvement from 4.8x as during 2014, due to an almost PEN100 million increase in EBITDA to PEN481 million. Lindley recently completed the end of a heavily debt-funded capex program to expand capacity, improve efficiency and distribution logistics. Debt as of June 30, 2016 was PEN1.6 billion. During the second quarter of 2016 Lindley launched a tender offer for up to USD200 million of its USD580 million senior unsecured notes. The buyback was financed with proceeds from real estate asset sales, short-term debt and cash flow from operations. To date, Lindley has received approximately USD95 million from sales of real estate assets; as part of Arca Continental's agreement to purchase the Lindley family's shares in September 2015, the Lindleys committed to purchasing certain real estate assets of the group.

Solid Business Position:

Lindley's ratings are also supported by its 70% market share of Peru's carbonated soft-drinks market. Inca Kola is an iconic brand and the leading soft drink of the historically non-Coke Peruvian market constituting about 50% of Lindley's carbonated soft drinks sales volume. The company also holds leading positions in water and juice categories.

KEY ASSUMPTIONS

Fitch's key assumptions within the rating case for Arca Continental incorporate Lindley and include:

--Revenue growth of 17% in 2016 and 6% in 2017;

--EBITDA margin of stable at around 21% in 2016-2017;

--Annual FCF generation around MXN3 billion in 2016-2017;

--Net debt-to-EBITDA close to 1.2x in 2016 and 1.0x in 2017.

RATING SENSITIVITIES

Fitch does not foresee positive ratings actions over the medium term for Arca Continental given the current rating levels. Nevertheless, a positive rating action on Lindley's ratings could result from sustained net leverage ratios below 2.5x. Further strengthening of legal, operational, and strategic ties between Arca Continental and Lindley could also result in a positive rating action for Lindley.

Arca Continental's ratings could face pressure from a combination of one or more of the following: a deterioration of profitability margins below the industry's average; negative FCF through the business cycle; significant debt-financed acquisitions or material debt levels associated to the U.S.'s territories; lack of strengthening in its gross and net leverage towards 1.5x and 1.0x, respectively, in the next 18 to 24 months; downgrades in Mexico's sovereign rating and country ceiling.

Lindley's ratings could be negatively impacted by a downgrade of Arca Continental's ratings or a weakening in the operational and strategic ties between the two companies.

LIQUIDITY

As of June 30, 2016, Arca Continental's liquidity position is adequate with cash and marketable securities of MXN4.9 billion and a short term debt of MXN7.6 billion. Fitch expects that the company's will pay its local issuances due this year in October and December for MXN1 billion and MXN400 million, respectively, and will refinance a portion of its remaining short term debt. Arca Continental's next debt amortizations are MXN1.7 billion in 2017, MXN2.6 billion 2018 and MXN2.9 billion in 2019. Fitch believes the company has enough financial flexibility to face its debt maturities in the short and long term given its cash position, positive FCF generation and good access to credit facilities and capital markets.

Additional information is available on www.fitchratings.com.

Applicable Criteria

Corporate Rating Methodology - Including Short-Term Ratings and Parent and Subsidiary Linkage (pub. 17 Aug 2015)

https://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=869362

Additional Disclosures

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https://www.fitchratings.com/creditdesk/press_releases/content/ridf_frame.cfm?pr_id=1009990

Solicitation Status

https://www.fitchratings.com/gws/en/disclosure/solicitation?pr_id=1009990

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Contacts

Fitch Ratings
Arca Continental
Primary Analyst
Rogelio Gonzalez
Director
+52-8399-9100
Fitch Mexico S.A. de C.V.
Prol. Alfonso Reyes 2612
Monterrey, N.L., Mexico
or
Secondary Analyst
Maria Pia Medrano
Associate Director
+52-55-5955-1600
or
Lindley
Primary Analyst
Cristina Madero
Associate Director
+1-312-368-2080
or
Secondary Analyst
Josseline Jenssen
Director
+511-372-0681
or
Committee Chairperson
Alberto Moreno
Senior Director
+52-81-8399-9100
or
Media Relations:
Peter Fitzpatrick, +44 20 3530 1103, London
peter.fitzpatrick@fitchratings.com

Contacts

Fitch Ratings
Arca Continental
Primary Analyst
Rogelio Gonzalez
Director
+52-8399-9100
Fitch Mexico S.A. de C.V.
Prol. Alfonso Reyes 2612
Monterrey, N.L., Mexico
or
Secondary Analyst
Maria Pia Medrano
Associate Director
+52-55-5955-1600
or
Lindley
Primary Analyst
Cristina Madero
Associate Director
+1-312-368-2080
or
Secondary Analyst
Josseline Jenssen
Director
+511-372-0681
or
Committee Chairperson
Alberto Moreno
Senior Director
+52-81-8399-9100
or
Media Relations:
Peter Fitzpatrick, +44 20 3530 1103, London
peter.fitzpatrick@fitchratings.com