METRO: Event and Expected development of credit profile/rating

The easing of systemic fears in the aftermath of the European sovereign debt crisis affected all credit asset classes. METRO (Baa2n/BBBs/BBBs) just reported 3Q10 results, beating market expectations in terms of EBITDA and EBIT. Furthermore, the company raised its EBIT guidance (before special items) from EUR 2.2bn to EUR 2.3bn. In 3Q10, group sales were up by 2.6% yoy (in local currencies) to EUR 16.3bn (consensus: EUR 16.2bn), while EBITDA improved by 14.1% yoy to EUR 771mn (consensus: EUR 753mn).

In the Cash ; Carry segment, the environment remained challenging during 3Q10. However, on a like-for-like basis, development of revenues showed a turnaround, whereby revenues were up by 0.1% yoy to EUR 7.8bn, EBITDA before special items even improved by 28.1% to EUR 316mn. Within the consumer electronic segment Media Markt and Saturn, the top-line was up by 1.0% yoy to EUR 4.8bn, supported by the strong German market (+1.6% yoy l-f-l), while revenues in Western and Eastern Europe grew at a slower pace. Segment EBITDA increased by 6.5% yoy to EUR 187mn. Group funds from operations increased to EUR 980mn from EUR 931mn during 9M09. However, due to seasonal working capital swings, operating cash flow was negative with EUR 2.3bn. As a result, net debt was up to EUR 8.0bn, fully in line with the figure reported for 9M09. Regarding the outlook for the remainder of 2010, the company expects sales to exceed the previous year's level (EUR 65.5bn), but still fall short of the medium-term target level of 6%. Due to the solid earnings development in 3Q10, METRO raised its guidance for FY10 EBIT (before special items) and now expects EUR 2.3bn instead of EUR 2.2bn, stated in August 2010 (FY09: EUR 2.0bn). METRO confirmed its medium growth target for the EBIT of 10%.

Expected development of credit
profile/rating

During 3Q10, the credit profile of METRO should have improved vs. 9M09, given the unchanged net debt position and the improved EBITDA reported for 9M10 (EUR 1.9bn vs. EUR 1.7bn reported for 9M009). We expect that 9M10 adj. net debt/EBITDA should stay at around 3.2x (9M09: 3.4x), which is sufficient for the rating. Although METRO will sharply increase its capex volume from EUR 1.4bn (FY09) to EUR 2.1bn in FY10 (inter alia stemming from the opening of more than 95 new stores), free cash flow should be positive (in the high double-digit or low triple-digit euro million area) in the current year, supported by the macroeconomic recovery and "Shape 2012". Hence, we are confident that METRO will achieve adj. FFO to net debt of >20% by FYE10, as required by S&P to keep the current BBB rating. However, headroom for further external growth does not exist under the current ratings. Furthermore, METRO's credit profile will benefit from the disposal of the French consumer electronic activities which might result in a cash inflow of ca. EUR 150mn.

We change our recommendation from marketweight to overweight, given the raised guidance for FY10 and the positive effect from the disposal of METRO's French consumer electronic activities. 5Y CDS trade at +98/104bp. In comparison to weaker rated Imperial Tobacco (Baa3s/BBBs/BBB-s; 5Y CDS: +95/100bp), we recommend to sell protection on the name.
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