Selecta Group BV 2024 Bonds: Buy opportunity below 42
As a result of COVID-19 concerns and poor trading during Q5 19, Selecta's three bonds due 2024 plunged from trading above par in February 2020 to the high 30s by the end of May 2020. Based on the down case Unitranche projections, which assume a staggered partial recovery between Q3 2020 and Q2 2021, the group will not have sufficient cash headroom to meet its near term financial and operational/capex requirements without a new money injection. This conclusion is supported by a recent Reuters article citing the sponsor's (KKR's) intent to provide an additional €150-200m in liquidity support to the Group (presumably in the form of super senior debt). However even if provided under terms amenable to the RCF/bondholders, the group remains highly leveraged and will have difficulty refinancing their €150m SS RCF by the February 2023 maturity without first rightsizing its capital structure in a future restructuring. In spite of the sponsor being out of the money according to our down and base cases, their recent and potentially continued liquidity support, appointment of advisors and changes to the Selecta Board/senior management signal intent to continue to support the entity out of a conviction in a hockey stick recovery.
Despite the fluidity of the company's situation, our projections shows a compelling investment opportunity for opportunistic bond purchasers should the notes be purchased at the current trading level (38 cents on the Euro buy-in) as there is a minimum unlevered IRR of 12.5% in each of the following scenarios:
Restructuring scenario A - base case trading, Q3 2020 new money and Q4 2022 restructuring: In this scenario, the Group avoids a near term restructuring due to the provision of €150m in new money by the sponsor, but will still need to be restructured prior to the maturity of the €150m RCF (February 2023) as leverage increases further. 100% of post reorganizational equity is projected to be received by the bondholders through a Scheme of Arrangement, and an unlevered IRR of 14.5% is received upon exit.
Restructuring scenario B - base case trading and Q3 2020 restructuring (no new money): Should new money negotiations fail, an imminent restructuring will be required to minimize the cash burn from the bond payments. An unlevered IRR of 12.5% is projected using the same restructuring mechanism as described above.
Upside case trading and Q3 2020 new money (no restructuring): Should KKR provide €150m in additional new money and trading significantly outperform historical levels (not likely given current headwinds) the bonds will pull close to par. The return to bondholders would increase further based on how much equity is negotiated in return for being primed by additional super senior debt from KKR. Our upside case shows an IRR of 32%
Furthermore, according to the Unitrance Estimated Outcome Statement, the bonds are currently trading close to the average realization dividend of 35 cents on the Euro, signaling downside protection in the event of liquidation.
Background
Selecta Group B.V. is a pan-European vending and coffee services company domiciled in Amsterdam, the Netherlands. The Group, which operates 475k P.O.S. in 16 countries, is currently owned by KKR who purchased it from Allianz Capital Partners in 2015 for an undisclosed sum. Since the acquisition, the Company has launched an aggressive campaign of acquisitions, including the purchases of Pelican Rouge, Argenta Group and Express Vending, which (excluding the Q5 19 quarter) has led to strong sustained revenue and adjusted EBITDA growth in spite of some performance and retention issues with Pelican Rouge. These acquisitions were however funded with significant bond debt, increasing the Group's Q1 2020 net leverage to the level of 11.3x (based on unadjusted EBITDA). A summary of the Group's current and pro forma capital structure is tabled below:
Given the Group's revenues are based on workplace and public foot traffic, European COVID-19 measures deteriorated the Group's FY20 trading and liquidity outlook leading to a decline in bond prices to the low 50s in March 2020. To supplement their Dec 31, 2019 cash balance of €64.4m until trading recovers, the Company secured €50m of super senior funding from KKR Credit and fully drew the remaining availability on their €150m SS RCF. The company also slashed Capex and operational expenditure (through accessing European furlough schemes etc.)
The Company's weak Q5 19 results and lack of clarity around the reasons for this led to a further deterioration in bond prices. The quarter recorded slightly improved sales in spite of industrial action in France, inclement weather in Venice as well as phasing of Christmas holidays, however adjusted EBITDA decreased by 40% for reasons that at the time were not well articulated by management, who instead chose to cancel the quarterly earnings call. This combination of poor performance and lack of issuer engagement eroded confidence as causing bond prices to fall further to the low 30s.
The Company has since made changes to their executive and corporate governance team, replacing the Chairman, CEO and CFO and hiring an experienced NED with a background in food science, consulting and investment banking. On their Q1 20 earnings call, the Company further clarified details on the reasons for the Q5 2019 EBITDA decline (primarily lower sales per machine per day, costs of sales and lease back transactions as well as investment in growth capabilities). On the back of this prices rebounded to the mid thirties level.
Please see pro forma Org Chart below including the various existing facilities (as at May 31, 2020):
Outcomes
As described earlier, there are four most likely outcomes for Selecta, each with their own relative probabilities and associated returns as summarized in the below:
Liquidation Scenario
According to Unitrache's conservative liquidation analysis, a range of c. 28 to 42 cents on the Euro (average 35) is projected for the par noteholders after costs of realization, based on of €1,700m in Group assets as per the December 31, 2019 balance sheet. The 42.9 level is therefore the maximum price for the investor more concerned with capital preservation and accordingly 38 serves as the baseline buy-in price for our returns analysis. The Estimated Outcome statement below summarizes the recovery for the bondholders holders:
Restructuring Scenarios
Regardless of whether or not the Company has sufficient liquidity to avoid a payment default (and therefore a restructuring) in the short term, there remains a trigger in the form of the RCF maturity in February 2023. In either scenario, the required restructuring could be effected via the mechanism described and pictured below:
Summary: Single English Scheme of Arrangement for all bonds at the Selecta Group B.V. level facilitated through pre-packaged sale including a dual English holdco structure.
Two new UK Newcos (NN1 and NN2) incorporated below Selecta Group Midco S.ar.l. (immediate parent of Issuer)
Bondholder Newco (single class) holds share pledge over NN2
Operating group (Selecta Group B.V and subsidiaries) transferred to NN2
NN2 accedes as co-obligor of all bonds
NN2 proposes UK scheme of all bonds
Bondholder Newco executes share pledge and operating group transferred to a bondholder newco
Bonds equitized
Super senior debt remains at Selecta Group B.V level (not included in Scheme)
US Chapter 15 recognition gained for NY law bonds
Note: If new money required, this would likely be provided by KKR on a super senior basis. Bondholder/RCF consent could be provided as part of Scheme
Based on the IVS comparable, the sustainable debt of the Company is c. €580m, implying a capacity of c. €380m of reinstatable bond debt. However given the low current valuation (albeit possibly higher for the Q4 2022 restructuring), cash burn and unprecedented trading headwinds, it is projected that the bondholders will elect to equitize 100% of the debt, fully eliminating the €84.1m in annual interest requirement.
Restructuring Scenario A: Q3 2020 new money and Q4 2022 D4E restructuring
According to our waterfall below, a conservative EBITDA multiple of 6.1x and c. €180m in cash provides an equity valuation of €734m in year 5, resulting in a recovery for par bondholders of 49.7%.
A buy-in price of 38 cents provides an unlevered IRR of 14.5% and a money multiple of 1.8x. The returns are summarized by the returns summary below.
Although a higher IRR is accomplished through earlier exits in years 2-4, the par recovery is lower in these years. Assuming that the composition of the noteholders is primarily par lenders a year 5 exit, where par recovery is maximized, is most likely.
The sensitivity analysis below shows how the IRR and MoM vary with bond buy-in price:
Restructuring Scenario B: Q3 2020 D4E restructuring (no new money)
According to our waterfall below, a conservative EBITDA multiple of 6.1x and c. €240m in cash provides an equity valuation of €945m in year 5, resulting in a recovery for par bondholders of 64.0%.
A buy-in price of 38 cents provides an unlevered IRR of 12.5% and a money multiple of 1.8x. The IRR is lower with this earlier restructuring as bond holders would not benefit from the coupon payments during the period. The returns are summarized by the returns summary below.
As in the previous scenario, a year 5 exit is assumed in spite of higher IRRs in years 2-4 as the par recovery is highest in this final year.
The sensitivity analysis below shows how the IRR and MoM vary with bond buy-in price:
Q3 2020 new money and trading outperformance
Although least likely, bond investors would benefit from bond coupons as well as a large capital gain upon refinancing at maturity. The bonds could pull to par if EBITDA and M&A/equity markets permit a favourable valuation, thus facilitating full repayment of the bonds upon their Feb 2024 maturity. According to our upside case, a 100% par recovery and 32% IRR for distressed purchasers (at a buy-in price of 38) is projected as presented in the tables below:
Forecast Assumptions (base case) and Credit Metrics
Selecta, like most other companies, has withheld guidance as result of the unprecedented market outlook. However, to evaluate the investment opportunity Unitranche has prepared illustrative projections for the period FY20 - FY24 assuming the following:
Base Case:
Quarterly revenue as percentage of the Q4 2019 level as follows: 20% (Q2 2020) 40% (Q3 2020) 60% (Q4 2020), 80% (Q1 2021) and 100% (Q2 2021 onwards). This was driven by the corresponding underlying performance in the sales per machine per day KPI
GPM at average level of Q2 2019 to Q4 2019 (55%).
Quarterly employee costs as a percentage the Q5 2019 level as follows: 30% (Q2 2020) 50% (Q3 2020) 75% (Q4 2020 - Q1 2021) and 100% (Q2 2021 onwards).
Variable overheads as a percentage of the revenue as follows: average Q2 2019 to Q4 2019 level (6.9%)
Fixed quarterly overheads for rent and admin staff as follows: 80% of Q1 2020 level (€23.3m (Q2 2020 to Q1 2021) and 100% thereafter (€29.2m)
Days payable, receivables and inventory were modelled at average FY18 level. Working Capital was a modest source of cash
No cash taxes paid
Net CAPEX assumed at 75% of Q1 2020 level (€13.6m) which should be sufficient to replace and refurbish existing machines and fund non-machine CAPEX for IT etc.
KKR Credit (€50m) and remaining RCF debt [EUR 16.5] is fully drawn in early Q2 2020 and interest paid quarterly
€20m in restructuring costs
Please note that the following were not modelled:
Additional equity injections
Additional new money from creditors
Working capital liquidity levers (supplier stretching etc)
Liability management
Intra-quarter cash movements
Based on the above, the following credit metrics were observed (post new money and/or restructuring):
Maximum net Leverage: 2.2x (Q1 2023) indicating the RCF will likely be able to be refinanced
Minimum LTM DSCR: 1.3x in Q2 2023, indicating the Group will generate adequate funds to service the senior secured debt
Minimum Cash Balance: c. €28.1m (Q4 2021) indicating new money/restructuring provides adequate liquidity should trading recover as projected
Risks and Mitigants
There are several risks with the proposed transaction, which are outlined below:
Reduced trading from core segments - mitigated by opportunity to provide additional sanitation and hygiene solutions
Legal challenge to "good forum shopping" - mitigated by precedents including Nyrstar
Delays/lower recovery in liquidation scenario - mitigated by conservative recovery ratios
Priming via Permitted Investments and Restricted Payments Baskets - further legal due diligence required on feasibility/tactics to combat
Appendices
Indenture Overview
Noteholders: EUR 375m: M&G, Cazenove, Spiltan; EUR 865m: Robeco, BlackRock; CHF 250m: Nordea IM Robeco
Guarantors: Subsidiaries comprising 97.7% of total assets of the group as at Q3 2019
Purpose: [Refinancing and General Corporate Purposes
Maturity: February 1, 2024
Security: Second ranking security interests over all the issued share capital of certain Group companies (together the “Guarantors”), certain intercompany receivables of the Company and the Guarantors, including assignment of the PIK Proceeds Loan and certain bank accounts of the Company.
Ranking: Senior secured
Covenants: Incurrence
NB. Under the terms of the Group’s super senior revolving credit facility, certain ratios to be tested if drawings exceeds 40% of the RCF facility.
Company Snapshot
Ownership: Sponsor-owned (KKR)
Industry: Self-service vending
Primary markets: Europe (475k P.O.S machines)
LTM Sales (March 2020): €1,590m
Market Share: ~10% (market dependent)
Market position #1 or 2 (market dependent)
Seasonality: [Low]
KPIs: [Sales/Machine/Day; Customer Retention]
LTM EBITDA (March 2020): €153m
Main products: Self service coffee and hot drinks; cold drinks, snacks and fresh food; equipment and ingredients
Employees: > 10k
Business Segments (March 31, 2020)
Workplace (46%): The Workplace points of sale are installed in workplace environments and therefore primarily accessible to customer’s employees.
On the Go (36%): Public (end consumers are are in transit) and semi-public (areas accessible to end-consumers either visiting the premises or employed on the premises i.e.leisure, education, health, access to public services, etc. )points of sale.
Trading (18%): The Trading channel captures trade machines sales and ingredients sales; rental and technical services; and the external sales of the Roaster products. The above channel split articulates the main differences in customer segmentation and the corresponding offering and contract types across the Group.
Geographic Segments (March 31, 2020):
South, UK & Ireland (35.3%): paid-vend, private vending
Central (34.4%): paid-vend, mixed channel vending includes DACH and France, Austria and France.
North (30.3%): free-vend, office coffee services (OCS) and includes Nordics, Belgium and Netherlands. Also includes Pelican Rouge Roaster in the Netherlands
External Analysis
Market Overview/Outlook
Selecta operates in the Unattended Self Serve Retail market.
Market Size: €13.3bn 2017 [Europe] - (Workplace €11.1bn; On-the-Go €2.2bn)
Market CAGR (2012-2017) : Workplace 1.5% ; On-the-Go1.9%
Market CAGR (2017-2022 - Pre-COVID) : Workplace 2.3% ; On-the-Go 3.3%]
Market Dynamics: Fragmented
Competitors: IVS
Source: Euromonitor
Sources: Debtwire, Capital structure, Reuters, Company disclosures
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