DBRS Morningstar Confirms Babcock International Group Plc at BBB with Stable Trends

DBRS Ratings GmbH (DBRS Morningstar) confirmed the Issuer rating and the Senior Unsecured Debt rating of Babcock International Group PLC (Babcock, or the Company) at BBB. The trends for both the ratings are Stable. Despite the fact that the Coronavirus Disease (COVID-19) pandemic is weighing significantly on Babcock's financial profile, DBRS Morningstar expects that - in conjunction with Babcock's sound business profile - the Company’s key financial metrics, although weakening in the financial year ending March 2021 (F2021) but recovering in F2022, will remain supportive of the assigned rating category.

The nature of Babcock's business - supporting nondiscretionary defence, emergency services, and nuclear power programmes and services - ensures that the majority of the Company's work will continue throughout the coronavirus pandemic, with the Company's employees designated as critical workers by governments in the UK and internationally. However, some areas have been and will continue to be particularly affected by lower levels of demand, including short-cycle work (such as rail and power in the UK and the airport businesses), flying in the aerial emergency services business, activity at some civil nuclear sites, and training activity in both defence and civil. The necessary safety constraints - such as restricted access to customer sites, complex safety measures, reduced numbers of staff on site, changed shift patterns, etc. - are all having and will continue to have a material impact on costs and efficiency, causing Babcock's margins and profitability to deteriorate. As a result, DBRS Morningstar notes that the Company's operating efficiency has been weakening. Against this backdrop, the Company is undertaking mitigating measures, including reducing capex, accelerating aircraft fleet rationalisation, and cancelling dividends for F2020.

DBRS Morningstar notes that Babcock’s business risk profile is comfortably within the BBB rating category. This is supported by (1) Babcock’s strong market position in all its business segments, particularly in the UK; (2) solid track record in winning contracts, with an above 90% success rate in rebids and 40% in new bids; (3) high revenue visibility thanks to its large order backlog - approximately 4x its revenue in F2020 - and because the majority of its contracts are of long duration; and (4) the fact that Babcock is well positioned to benefit from the increasing outsourcing trend for service work at both public and private sector entities.

DBRS Morningstar notes that Babcock’s financial risk profile slightly weakened in F2020 and deteriorated in the first quarter (1Q) of F2021, mainly because of the step-downs in the Queen Elizabeth Class aircraft carriers and Magnox contracts, exits and disposals, the normalisation of joint venture contributions, modest Brexit-related restructuring charge, foreign exchange movements, and the negative impact of the coronavirus pandemic. In March 2020, Babcock fully drew-down its revolving credit facility (RCF) as a liquidity contingency measure, in response to the economic and market uncertainty caused by the coronavirus pandemic. This caused the Company to temporarily hold a significantly higher cash balance versus previous years at GBP 1,351.4 million as of 31 March 2020 versus GBP 275.2 million as of 31 March 2019, as well as materially increasing its adjusted total debt to GBP 3,027.4 million in F2020 from GBP 1,942.3 million in F2019. However, as Babcock fully repaid its RCF and normalised its cash balance in 1Q F2021, DBRS Morningstar calculates the key debt metrics for F2020 on a pro forma basis, to reflect the actual financial risk profile of the Company.

Based on the current and forecast performance, DBRS Morningstar notes that - although Babcock is now positioned at the lower end of its current rating category - its ratings are still expected to remain stable over the next 12 months. Due to the current macroeconomic environment, DBRS Morningstar considers a rating upgrade to be unlikely in the short term, as this would require a strengthening in the Company’s business risk profile and an improvement, on a sustained basis, of its key financial metrics. On the other hand, the uncertainty regarding the duration and severity of the impact of the coronavirus pandemic is a concern. DBRS Morningstar could take a negative rating action if Babcock's performance and key financial metrics are weaker than anticipated in the next 12 months.

ESG CONSIDERATIONS
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 British pound sterling unless otherwise noted.

The principal applicable methodology is the “Rating Companies in the Services Industry” (5 February 2020). Other applicable methodologies include the “DBRS Morningstar Criteria: Rating Corporate Holding Companies and Parent/Subsidiary Rating Relationships” (25 November 2019). These can be found can be found at: https://www.dbrsmorningstar.com/about/methodologies.

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 primary sources of information used for these ratings include the Company’s annual report, management presentation, financial projections, and budget. DBRS Morningstar considers the information available to it for the purposes of providing these ratings to be of satisfactory quality.

DBRS Morningstar does not audit the information it receives in connection with the rating process, and it does not and cannot independently verify that information in every instance.

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 further information on DBRS Morningstar historical default rates published by the European Securities and Markets Authority (ESMA) in a central repository, see: https://cerep.esma.europa.eu/cerep-web/statistics/defaults.xhtml.

The sensitivity analysis of the relevant key rating assumptions can be found at: https://www.dbrsmorningstar.com/research/366752/babcock-international-group-plc-sensitivity-analysis

Ratings assigned by DBRS Ratings GmbH, Sucursal en España are subject to EU and U.S. regulations only.

Lead Analyst: Giuseppe Fresta, Vice President
Rating Committee Chair: Charles Halam-Andres, Managing Director
Initial Rating Date: 7 February 2011
Last Rating Date: 20 September 2019

DBRS Ratings GmbH, Sucursal en España
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-- Rating Companies in the Services Industry (5 February 2020)
https://www.dbrsmorningstar.com/research/356435/rating-companies-in-the-services-industry.
-- DBRS Morningstar Criteria: Rating Corporate Holding Companies and Parent/Subsidiary Rating Relationships (25 November 2019)
https://www.dbrsmorningstar.com/research/353260/dbrs-morningstar-criteria-rating-corporate-holding-companies-and-parentsubsidiary-rating-relationships.

Information regarding DBRS Morningstar ratings, including definitions, policies, and methodologies, is available on www.dbrsmorningstar.com.

This press release was amended on 7 October 2020 to clarify that the last rating date for this transaction was 20 September 2019.