DBRS Upgrades AGT Issuer Rating to B (high) and High-Yield Notes to BB (low), Trends Stable

DBRS Limited (DBRS) has today upgraded the Issuer Rating of AGT Food and Ingredients Inc. (AGT or the Company) to B (high) and the Senior Secured High-Yield Notes to BB (low). The trends have been changed to Stable from Positive. The upgrade of the Senior Secured High-Yield Notes reflects the upgrade of the Issuer Rating as well as a change in the Recovery Rating to RR3 from RR4. AGT’s new B (high) Issuer Rating is supported by the growth in its less-cyclical and higher-margin Food Ingredients and Packaged Foods segment, as well as its solid position in staple foods, diversification in terms of geography, suppliers and customers and favourable industry trends and demographics. The rating also reflects the volatility of input costs and AGT’s sensitivity to weather, as well as the low-margin and capital-intensive nature of the legacy Pulse Processing business, competition with other commodity-type products and risks associated with the Company’s growth.

On February 24, 2015, DBRS changed the trend on AGT’s ratings to Positive. The trend change reflected the Company’s improving earnings profile since the inception of the rating in 2013, including solid growth in the higher-margin, less-cyclical Food Ingredients and Packaged Foods segment. In addition, the financial profile benefited from a common share issuance to help invest in growth. At the time, DBRS stated that should AGT continue to display solid growth in its Food Ingredients and Packaged Foods segment and maintain its credit metrics (i.e., debt-to-EBITDA below 6.0 times (x), long-term debt-to-EBITDA below 3.75x and EBITDA coverage above 2.5x), an upgrade of its Issuer Rating to B (high) would likely result.

Since that time, AGT continued to deliver solid growth in its Food Ingredients and Packaged Foods segment as well as strong margins in its legacy Pulse Processing segment through Q3 F2015. The Company also completed strategic acquisitions of rail logistic and bulk handling assets to increase shipping capacity. Revenues increased 19.4% in the nine months ended Q3 F2015 to approximately $1.52 billion for the last 12-months (LTM) ended Q3 F2015 versus $1.4 billion in F2014 and $1.1 billion in F2013. Revenue increased primarily as a result of changes in mix and increasing commodity prices and growth in the Food Ingredients and Packaged Foods segment more than offsetting a decline in metric tonnes invoiced in AGT’s legacy businesses. EBITDA margins declined modestly versus the previous year, primarily because of pressure on gross margins from supply constraints as the Company approached the new harvest. Gross margin per metric tonne, however, has continued to improve notably, driven by strong performance in the Food Ingredients and Packaged Foods segment as well as the legacy Pulse Processing segment. As such, EBITDA continued to increase, rising to approximately $86 million for the LTM ended Q3 F2015, versus $80 million in F2014 and $56 million in F2013.

AGT’s financial profile improved through the first nine months of F2015 because of the rising earnings and cash flow, more than offsetting a further increase in balance sheet debt. Cash flow from operations continued to track operating income, while capital expenditure (capex) increased as the Company invested in the expansion of its Minot, North Dakota, Food Ingredients facility. Cash outlay for dividends remained relatively flat as the Company maintained its dividend on a per-share basis. As such, the Company generated a modest amount of positive free cash flow before changes in working capital. The Company used drawings from its revolving credit facility to fund cash requirements for changes in working capital as well as its acquisition (by its subsidiary Alliance Pulse Processors Inc.) of the assets West Central Road and Rail Ltd. Despite the increase in long-term debt to $276 million at the end of Q3 F2015 from nearly $240 million at the end of Q3 F2014, credit metrics continued to improve (debt-to-EBITDA of 4.44x, long-term debt-to-EBITDA of 3.20x and EBITDA coverage of 2.84x for the LTM ended Q3 F2015 versus 4.96x, 3.22x and 2.55x, respectively, for the LTM ended Q3 F2014). DBRS notes that on October 30, 2015, AGT completed the acquisition Mobil Capital Holdings Ltd. & Subs. for total consideration of $57.5 million consisting of $19 million of cash, the issuance of $19 million of common shares and a $19.5 million five-year promissory note.

Going forward, DBRS believes that AGT’s Issuer Rating is now well placed in the B (high) rating category on a through-the-cycle basis. DBRS expects AGT’s Food Ingredients and Packaged Foods segment will continue to grow as a proportion of the Company, benefiting from its sales and distribution agreements with Ingredion Incorporated, with a focus on North America, Europe and China. Sales and margins will benefit from added capacity and the introduction of new products (i.e., deflavouring) as product mix shifts to human and pet food from feed. AGT’s legacy Pulse Processing business is expected to continue to benefit from strong Canadian pulse exports and higher pulse prices driven by lower local production in key regions. Margins and earnings should also benefit from the recent acquisitions, which will allow AGT to effectively control its logistics with an integrated supply chain for efficient transportation of pulses and durum wheat, increasing shipping capacity and allowing AGT facilities to focus on higher-margin activities. As such, DBRS believes that AGT’s EBITDA should continue to rise above the $100 million level in the near term and toward the $130 million level over the medium term.

DBRS expects AGT’s financial profile to remain at least stable in the near term based on improved cash flow-generating capacity and relatively stable financial leverage. Cash flow from operations should continue to track operating income while maintenance capex should remain moderate and the Company continues to focus on growth after the investment in expanding the Minot facility. DBRS expects the Company’s dividend will remain relatively stable on a per-share basis. As such, AGT’s cash flow-generating capacity should improve. Any free cash flow as well as possible incremental debt is expected to be used to invest in growth as AGT scales its Food Ingredients business. Over the longer term, DBRS believes free cash flow could be used to support increasing returns to shareholders. As such, DBRS expects credit metrics should improve over the medium term with earnings growth and debt amortization payments. Should AGT continue improve its business mix by growing its higher margin and more stable business segment, in addition to improving its free cash flow and credit metrics (i.e., debt-to-EBITDA below 4.0x, long-term debt-to-EBITDA below 3.0x and EBITDA coverage toward 3.25x), a further positive rating action could result.

DBRS has upgraded the recovery rating on AGT’s Senior Secured High-Yield Notes to RR3 from RR4. The improvement in the recovery rating reflects DBRS’s view that holders of AGT’s $125 million Senior Secured High-Yield Notes would receive improved recovery in the 60% to 80% range. DBRS believes that recovery on the Senior Secured High-Yield Notes would continue to be primarily based on the assets in Turkey of the Arbel Group, reflecting increases in normal inventory levels at that entity.

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

The related regulatory disclosures pursuant to the National Instrument 25-101 Designated Rating Organizations are hereby incorporated by reference and can be found by clicking on the link to the right under Related Research or by contacting us at info@dbrs.com.

This rating is endorsed by DBRS Ratings Limited for use in the European Union.

The applicable methodologies are Rating Companies in the Consumer Products Industry, DBRS Recovery Ratings on Non-Investment Grade Corporate Issuers and DBRS Criteria: Guarantees and Other Forms of Explicit Support, which can be found on our website under Methodologies.

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