DBRS Downgrades Sysco’s Ratings to A (high) and R-1 (low)

DBRS has today downgraded the Senior Unsecured Debt and Commercial Paper ratings of Sysco Corporation (Sysco or the Company) and Sysco International, ULC (based on the guarantee from Sysco) to A (high) and R-1 (low) from AA (low) and R-1 (middle), respectively. The trend on Sysco’s long-term rating remains Negative while the trend on the short-term rating is now Stable.

On February 15, 2012, DBRS changed the trends on Sysco’s ratings to Negative from Stable. This rating action reflected DBRS’ concern at the time that Sysco’s continued weak operating performance, combined with the added costs associated with the implementation of the Company’s business transformation project, could result in Sysco’s credit risk profile deteriorating to a level that would no longer be consistent with the AA (low) rating category. DBRS had then stated that a lack of significant recovery in operating income and limited improvement in key credit metrics (i.e., lease-adjusted debt-to-EBITDAR improving toward the 1.0x mark by the end of the fiscal year) may result in a downgrade in Sysco’s credit ratings.

Subsequent to that statement, Sysco has released its F2012 year-end results, which delivered overall sales growth of 7.8%. This was driven largely by inflationary pricing of approximately 5.5% and reasonable organic case-volume growth of 2.5% (excluding acquisitions). That said, the significant increase in revenue did not translate into growth in Sysco’s operating income. Higher operating expenses related to the Company’s business transformation project and other selling, general and administrative expenses eroded Sysco’s EBITDA margin over the course of F2012 (5.5% at the end of F2012 versus 6% at the end of F2011). As such, Sysco’s EBITDA decreased to $2.34 billion at the end of F2012 from $2.38 billion a year earlier.

During the year, Sysco also invested heavily in its capex for its transformation project (total capex of $785 million in F2012 versus $636 million in F2011) and completed several small tuck-in acquisitions that totalled to $110.6 million. In addition, Sysco continued to provide increasing returns to its shareholders through dividend increases and share repurchases. As such, total balance sheet debt increased to $3.02 billion at the end of F2012 from $2.49 billion a year earlier, resulting in a further deterioration in Sysco’s key credit metric (i.e. lease-adjusted debt-to-EBITDAR) to 1.39x from 1.23x.

The deteriorating operating performance and weakened credit metrics has resulted in a credit risk profile that is no longer consistent with an AA (low) rating. In terms of outlook, DBRS is maintaining the Negative trend on the ratings, since meaningful growth in operating income may be difficult to achieve in the near term as Sysco continues to implement its business transformation project in the context of a challenging macro environment.
If Sysco demonstrates a meaningful improvement in its operating income from the successful execution of its business transformation project and continues to display prudent financial management (i.e., dividend increases, share repurchases and debt-financed acquisitions), the ratings outlook could stabilize. However, continued weakness in operating performance and/or more aggressive financial management that results in further deterioration of key credit metrics (i.e., lease-adjusted debt/EBITDAR meaningfully above 1.5x) over the course of F2013 may result in another downgrade of Sysco’s long-term rating.

Notes:
All figures are in U.S. dollars unless otherwise noted.

The applicable methodology is Rating Companies in the Merchandising Industry (May 2011), which can be found on our website under Methodologies.