DBRS Morningstar Confirms Kruger Products L.P.’s Issuer Rating at BB and Senior Unsecured Notes Rating at B (high), Stable Trends

DBRS Limited (DBRS Morningstar) confirmed Kruger Products L.P.’s (KPLP or the Company) Issuer Rating at BB and its Senior Unsecured Notes (the Notes) rating at B (high). Both trends are Stable. The Recovery Rating on the Notes remains RR6. The rating actions reflect DBRS Morningstar’s expectation that KPLP’s credit risk profile will remain within the BB rating category over the medium term, despite the near-term stress on the Company’s Away-From-Home segment as a result of the Coronavirus Disease (COVID-19) pandemic. KPLP’s current ratings continue to be supported by its strong brands and leading market position in the Canadian tissue products market, stable demand, and significant barriers to entry. The current ratings also continue to reflect the intense competition, volatile input costs, and product/market concentration.

DBRS Morningstar based its analysis on KPLP’s deconsolidated financial statements, which excludes subsidiaries that are unrestricted and nonrecourse to the Company (i.e., the through-air-dried (TAD) projects).

When DBRS Morningstar confirmed KPLP’s ratings on December 16, 2019, DBRS Morningstar expected KPLP’s debt-to-EBITDA to improve below 4.0 times (x) in the medium term, primarily supported by a slow recovery in earnings.

For 2020, DBRS Morningstar forecasts that revenue will remain flat on 2019 levels (excluding the impact of KPLP’s divested Mexico business) despite the enforced stay-at-home measures, which affect approximately half of the Company’s Away-From-Home end markets. (In 2019, the Away-From-Home segment contributed approximately 22% of total revenue.) While the Consumer segment has benefitted from sales volume increases in Q1 2020 as consumers stockpiled in response to the coronavirus pandemic, DBRS Morningstar believes that this surge will subside as consumers deplete their stockpiles, after which buying patterns will likely normalize. DBRS Morningstar expects rising input costs, higher maintenance costs, and the increased cost of freight and warehousing to pressure operating income and EBITDA margins. This could more than offset the benefits of price increases implemented in 2019 and cost-savings benefits from the Operational Excellence program. DBRS Morningstar believes that 2021 earnings should return to 2019 levels, as stay-at-home measures are eased or lifted.

The near-term decline in operating income and corresponding cash flow will weaken KPLP’s financial profile and key credit metrics. In 2020, DBRS Morningstar expects free cash flow (FCF) after dividends and before changes in working capital to decline despite a decrease in the cash dividend outlay because of Kruger Inc.’s 100% Dividend Reinvestment Plan participation for that year. DBRS Morningstar anticipates the decline in FCF to be driven by the contraction in operating income and forecasts capital expenditure to remain relatively flat on prior year levels of $25 million to $35 million. Consequently, KPLP’s leverage is forecast to temporarily weaken above the 4.0x level considered appropriate for the current BB rating category in 2020, and improve to below 4.0x in the medium term. Maintenance of the Stable trend will be influenced by stabilization and recovery in operating income rather than debt reduction. A negative rating action could result if KPLP’s operating performance deteriorates well beyond current expectations, irrespective of the Company applying any capital-conserving measures to improve credit metrics through debt reduction. Additionally, should KPLP fund any cost overruns on the TAD Sherbrooke project, its ratings could come under pressure. Conversely, DBRS Morningstar believes that a positive rating action is unlikely in the current environment caused by the uncertainty surrounding the coronavirus pandemic.

The adoption of IFRS 16 and the impact thereof on the credit metrics did not materially change DBRS Morningstar’s view of KPLP’s overall credit risk profile.

A description of how DBRS Morningstar considers ESG factors within the DBRS Morningstar analytical framework and its methodologies can be found at: https://www.dbrsmorningstar.com/research/357792.

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

The principal methodologies are Rating Companies in the Consumer Products Industry (August 15, 2019), DBRS Morningstar Criteria: Rating Corporate Holding Companies and Parent/Subsidiary Rating Relationships (November 25, 2019), and DBRS Criteria: Recovery Ratings for Non-Investment Grade Corporate Issuers (August 22, 2019), which can be found on dbrsmorningstar.com under Methodologies & Criteria.

For more information regarding rating methodologies and Coronavirus Disease (COVID-19), please see the following DBRS Morningstar press release: https://www.dbrsmorningstar.com/research/357883.

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 under Related Documents or by contacting us at [email protected].

The rated entity or its related entities did participate in the rating process for this rating action. DBRS Morningstar had access to the accounts and other relevant internal documents of the rated entity or its related entities in connection with this rating action.

Generally, the conditions that lead to the assignment of a Negative or Positive trend are resolved within a 12-month period. DBRS Morningstar trends and ratings are under regular surveillance.

For more information on this credit or on this industry, visit www.dbrsmorningstar.com or contact us at [email protected].

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