DBRS Places Bombardier Inc.’s Ratings Under Review with Negative Implications

DBRS has today placed the Issuer Rating, Preferred Shares and Senior Unsecured Debentures of Bombardier Inc. (BBD or the Company) Under Review with Negative Implications. The rating action mainly reflects the recent deterioration in the financial profile, caused by rising debt levels. This is largely due to the elevated capital outlays associated with the C-series aircraft program, resulting in large negative free cash flows, further borrowing and higher leverage as evident during the most recent earnings release. The C-series program is being pushed further out, as delays in the overall systems integration of the flight test vehicle have caused the Company to postpone first test flight and entry-into-service dates.

DBRS will likely remove the rating from Under Review with Negative Implications and downgrade Bombardier if the financial profile metrics do not show improvement from current levels or if they deteriorate further by the end of the third quarter of this fiscal year. Additionally, DBRS would downgrade the rating should the Company announce further program delays, or continue to have similar levels of capital outlays, negative free cash flows and leverage during the same time frame.

Bombardier Aerospace (BA) has committed to a number of aircraft development programs, with the C-series commercial aircraft program being the most substantial as the program’s success has become an important part of the Company’s overall financial performance. As at June 30, 2013, the C-series contributed to about 58% of total commercial aircraft backlog by units and likely a higher proportion of backlog value. The C-series aircraft backlog stood at 177 firm orders as at June 30, 2013; however, the program has faced a number of costly challenges and setbacks.

These setbacks have resulted in delays of flight testing of approximately eight months so far (the aircraft was originally scheduled for a first flight at the end of 2012). As a result, program costs have risen and continue to represent large cash outflows. With elevated capital expenditures, negative net free cash flow was approximately $1,297 million and $1,287 million in H1 2013 and full-year 2012, respectively. BBD issued $2 billion in debt in January 2013 to cover the funding shortfall. This debt issue has further leveraged up the balance sheet and weakened all credit metrics. The adjusted debt-to-EBITDA was approximately 5.5x at for the 12 months ended June 30, 2013, compared to 4.6x for the 12 months ended December 31, 2012, while cash flow debt coverage slipped to 0.16x from 0.19x in the same time period. In terms of profitability, the EBIT margin declined to 5% in fiscal year 2012, from 6.6% in fiscal year 2011.

At present time, BBD has not given a definite date for the commencement of the first test flight, also adding to the uncertainty of the length of the existing flight testing time frame of 12 months after first test flight. The string of delays and the now more likely extension of the 12-month flight-test window have made entry into service challenging before the end of 2014 (noting it was originally scheduled for the end of 2013). The current developments have also added uncertainty to the amount and timing of revenues from the C-series program. While the long-term outcomes of the program are yet to be determined, the recent challenges could also prove costly in terms of missed revenue opportunities from customers who are observing the C-series program from the sidelines. In light of the heightened risk at this time, we view BA’s business risk profile as modestly weaker, also considering the generally volatile demand conditions.

Based on our outlook for 2013–2014, anticipated recovery in BBD’s financial profile is unlikely until after 2015 as elevated capital outlays are likely to exceed cash flow from operations and free cash flow is therefore projected to be negative. While liquidity is projected to be sufficient over that timeframe, noting that total available liquidity resources totalled approximately $4.5 billion as at June 30, 2013, the level of debt could further increase in order to cover the continued cash shortfall.

With substantially higher debt at the end of June 30, 2013, and with limited ability of Bombardier Transportation (BT) to cover the negative free cash flows of the BA division, successful execution of the development and production of the C-series has now assumed critical importance to BBD’s future. While the longer-term impacts are yet to be ascertained, the short-term challenges are now evident. The confluence of additional capital outlays, reduced profitability and delayed revenues for a longer time frame than originally expected mean negative free cash flow, elevated leverage and a delay in the improvement of the already weak financial profile. The Company’s metrics are now outside the current rating level, and DBRS will likely downgrade Bombardier should the Company announce further program delays, or continue to have similar levels of capital outlays, negative free cash flows or leverage during the next quarter.

Notes:
All figures are in Canadian dollars unless otherwise noted.

The applicable methodology is Rating Companies in the Industrial Products Industry (June 2013), which can be found on our website under Methodologies.

This is an unsolicited rating. This rating was not initiated at the request of the issuer or rated entity and did not include participation by the issuer or any related third party.