TEXT-S&P summary: Codere S.A.

(The following statement was released by the rating agency)

Oct 05 - =============================================================================== Summary analysis -- Codere S.A. ----------------------------------- 05-Oct-2012 =============================================================================== CREDIT RATING: B-/Negative/-- Country: Spain Primary SIC: Amusement and recreation, nec =============================================================================== Credit Rating History: Local currency Foreign currency 06-Jul-2012 B-/-- B-/-- 02-Jul-2009 B/-- B/-- 27-Oct-2008 B+/-- B+/-- =============================================================================== Rationale

The rating on Spain-based gaming company Codere S.A. reflects Standard & Poor's Ratings Services' view of its "highly leveraged" financial risk profile and "weak" business risk profile.

Codere's rating is mainly constrained by its financial risk profile, and, in particular its liquidity, which we view as "less than adequate." Our liquidity concerns focus mainly on Codere's ability to refinance its EUR120 million senior revolving credit facility (RCF) maturing in June 2013 over the next quarter, as well as the importance of access to cash flows located in Latin America, particularly in Argentina. We think these cash flows have some vulnerability to foreign exchange movements, which we understand are only partially hedged in 2012, and not hedged at all in 2013.

Our assessment of Codere's weak business risk profile reflects its substantial exposure to Latin America, particularly to Argentina and Mexico, which we regard as generally subject to greater regulatory, foreign exchange, and labor relations risks than European operations. We also remain mindful of the ongoing more severe cyclical pressures in Spain and Italy, though we note that these markets represent less than 15% of the group's consolidated EBITDA. These weaknesses are somewhat mitigated by our view of the company's cash generative characteristics, its leading market positions, and limited maintenance capital expenditure (capex) requirements.

S&P base-case operating scenario

Our base-case scenario and its underlying assumptions have not changed significantly since our last publication dated July 6, 2012. Assuming no regulatory and foreign-exchange related shocks, we expect low-double-digit revenue growth and mid-single-digit EBITDA growth in 2012 under our base-case scenario, pro forma for the ICELA acquisition completed in February 2012. We note that despite the EBITDA growth expected in 2012, on a like-for-like basis, we anticipate a mild decline versus the 2011 performance, owing to, among other factors, tax increases in Italy, Argentina, certain Mexican states, and Panama, restructuring costs in Mexico, start-up costs associated with the Carrasco project in Uruguay, and the expected impact of the smoking ban implementation in the gaming halls of Buenos Aires Province, enacted since Oct. 1, 2012.

Importantly, given Codere's substantial exposure to the Argentine market (about 55% of the company's consolidated EBITDA), we factor into our base-case scenario that Codere's business will be affected to a degree by the increasing risks embedded in Argentina's macroeconomic framework. Such impacts include high inflation (which continues to appreciate the real exchange rate), exchange rate controls, and other actions that have also contributed to the emergence of a parallel foreign exchange market. In particular, while we currently anticipate a devaluation of the local currency over the next few quarters, we believe such a devaluation could prove gradual and be more moderate than implied by the foreign exchange rates currently observed in the parallel market.

For 2013, we forecast EBITDA growth in the low-to-mid-single digits and anticipate that the potential aforementioned negative impact in Argentina will likely be offset by projected strong performance in Codere's other Latin American businesses, particularly on the back of the full year contribution of ICELA, in addition to the expected synergies of Codere's combined operations in Mexico, the newly opened casino in Colombia during the second quarter of 2012, and also importantly, the Carrasco casino in Uruguay, which is set to open during the fourth quarter of 2012.

S&P base-case cash flow and capital-structure scenario

As per our base-case scenario outlined above, we believe Codere's gross adjusted leverage and interest coverage metrics, pro forma for the recent transactions, are likely to be around 5.7x and 2.8x respectively, by year-end 2012, compared with 5.0x and 3.3x in 2011, and which we would still view as commensurate with the existing rating, provided that Codere's adjusted EBITDA interest coverage remains above 2.0x. Similarly, Codere's 2013 adjusted metrics should remain in line with 2012 expected levels, in our view.

We believe capital investments are likely to reach about EUR445 million for the full-year 2012, including the EUR158 million ICELA acquisition and the recent EUR106 million gaming hall renewal license fees, in line with company guidance. Nonetheless, for 2013 we expect Codere to significantly reduce its capex, as it has limited capital maintenance needs and no investment commitments to date.

In our view, a material rein on investment spending is crucial in order to mitigate significant risks and uncertainties over the next few quarters, such as Codere's ability to promptly refinance its senior RCF and any possible substantial deceleration in earnings growth. Although we note that greater discipline in respect of capex should enable the company to improve to a degree its overall liquidity profile, we do not expect Codere to be able to weather substantial adverse trading conditions without a senior credit facility in place.

In addition, while we do not incorporate into our base case expropriation risks for Codere's Argentine operations, we remain mindful that recent government policies, such as tightening control and limitations on cash flow repatriation for foreign companies as well as rising restrictions to international trade, could likely hamper Codere's financial flexibility in the short to medium term.


We view Codere's liquidity as "less than adequate" under our criteria. Although under our base-case scenario we estimate that Codere's liquidity sources are still likely to meet its uses by about 1.2x in 2012 and 1.0x in 2013, we remain mindful that these ratios could quickly weaken if the economic, financial, and political environment in Argentina deteriorated quicker than expected. In our view, Codere's ability to refinance its senior credit facility--maturing in June 2013--over the fourth quarter of 2012, is likely to prove critical for the rating and to shore up the group's liquidity position. We view the refinancing as particularly important because we believe that headroom under financial covenants and cash flow repatriation could be significantly squeezed if Argentina's local currency were substantially devalued versus the U.S. dollar over the next few quarters. Our understanding is that the group is not yet at an advanced stage in such a refinancing.

The group's liquidity sources benefit from:

-- EUR95.3 million of cash and short-term investments on Aug. 31, 2012. However, we are mindful that non-European subsidiaries hold about 55% of the company's cash (including about 17% in Argentina), so some cash might not be immediately available to the parent company. For 2013, we estimate that about EUR30 million of cash generated during the year may not be available, mainly given the potential impact of a currency devaluation effect in Argentina;

-- Positive funds from operations (FFO) of about EUR170 million for 2012 and comparable levels in 2013; and

-- Adequate headroom under its financial covenants. However, we note that the continued availability of the senior credit facility is subject to covenants, which could be tested in the event that economic and political conditions in Argentina were to worsen more than currently anticipated.

At the same time, the group's liquidity uses include:

-- EUR46 million of debt maturities for 2012 and, according to our estimates, similar figures for 2013;

-- EUR180 million of capex for 2012, excluding the recent acquisition of the additional stake in ICELA. We anticipate capex to be significantly reduced in 2013;

-- EUR106 million payment for the renewal of five licenses in Argentina; and

-- Given that the senior credit facility matures in less than 12 months, we assume that Codere might need to fund the outstanding amounts under both the RCF and the letters of credit and surety bonds lines, which we estimate would be about EUR88 million at the time of maturity.

We are also wary of Codere's short-term liabilities relating to deferred gaming tax payables to three main Spanish regional governments (Madrid, Cataluna, and Valencia) amounting to about EUR45 million and EUR50 million in 2012 and 2013. The regional governments might claim these sums, given their ongoing budgetary deficits and liquidity concerns. However, we currently do not include this possibility in our base-case scenario.

Given Codere's growing business in Argentina and the weak economic environment in Spain and Italy, we think that Codere's liquidity depends increasingly on continued access to cash flows from Latin America as well as to its senior credit facility. We understand that management doesn't intend to further upstream significant amounts of cash from Argentina in the remainder of 2012 and not until at least second-quarter 2013. It has announced its intention to use local cash sources to partly fund the upcoming license renewal fees. Nonetheless, we are mindful of the potential impact of foreign exchange movement, particularly in Argentina, which is only partly hedged in 2012 and currently unhedged for 2013.

Recovery analysis

The issue rating on the EUR760 million senior notes and $300 million senior notes issued by Codere Finance (Luxembourg) S.A. is 'B-', in line with the long-term corporate credit rating on Codere. The recovery rating on these notes is '4', indicating our expectation of average (30%-50%) recovery for noteholders in the event of a payment default. The notes are guaranteed on a senior basis by Codere and on a senior subordinated basis by subsidiary guarantors.

We have revised our simulated path to default and now forecast a hypothetical default in 2013, versus 2014 in our previous analysis, mainly triggered by the company's inability to refinance its EUR120 million credit facilities due in June 2013 combined with a significant devaluation of the Argentine peso. Our default scenario also assumes that the difficult political and economic conditions in Argentina would accelerate margin contraction in Codere's Argentine business.

Our recovery and issue ratings are supported by our valuation of Codere as a going concern, underpinned by its leading market positions and strong barriers to entry in the highly regulated gaming sector. On the other hand, the issue and recovery ratings are limited by our view of the security package and noteholder protection as weak. This is because the company could raise up to EUR200 million of senior bank debt according to the euro notes' documentation (compared with $400 million permitted in the dollar notes' documentation), including the EUR120 million credit facility that would rank ahead of the notes. The ratings also reflect the uncertainties related to Codere's operations in Latin American jurisdictions, and the company's exposure to the Spanish insolvency regime, which we view as unfavorable for creditors (see "Update: Jurisdiction-Specific Adjustments To Recovery And Issue Ratings," published June 20, 2008).

Our valuation on Codere is based on a combination of discounted cash flow and market multiple approaches, and a blended enterprise value to EBITDA multiple of 4.5x. The stressed EBITDA multiple reflects our anticipation of a lower valuation of the group's Argentine operations at the point of default. We assume an EBITDA decline to about EUR167 million and a stressed enterprise value of about EUR750 million at our hypothetical point of default in 2013.

From the stressed enterprise value, we deduct priority liabilities of about EUR107 million, comprising enforcement costs and finance leases. We also deduct about EUR260 million of debt ranking ahead of the euro and U.S. dollar senior notes, including the debt of Codere's various subsidiaries and the EUR120 million senior facility that we assume would be fully drawn by the point of default.

The residual value is sufficient for average recovery in the 30%-50% range for senior noteholders, comprising about EUR1,030 million in the year of default. However, we see some volatility in the recovery prospects, given that Codere could incur additional debt ranking ahead of the notes according to the documentation. We also consider that a more severe depreciation of the currencies in Argentina or Mexico could lead to materially lower recovery prospects for the senior noteholders, given that this debt is denominated in euros and U.S. dollars.


The negative outlook mainly reflects our concerns regarding Codere's ability to timely refinance its senior RCF, as we believe that any further significant macroeconomic and political deterioration in Argentina over the next 12 months could significantly and adversely impact Codere's earnings and liquidity during the period. In particular, any potential devaluation of the Argentine peso could result in a material tightening of the group's headroom under financial covenants over the next few quarters, and limit cash that could be repatriated from the country.

We could lower the rating on Codere if it is unable to satisfactorily strengthen its liquidity position and refinance its senior credit facility by mid-December, or if a quicker or more severe than anticipated currency devaluation, higher restrictions on cash flow repatriation, and increased foreign exchange controls in Argentina materializes over the next few quarters. A material tightening of covenant headroom to under 15% could also result in a downward rating action. Furthermore, we could lower the rating if our adjusted ratio of Codere's EBITDA interest cover were to go below 2.0x. We could also consider a downgrade if we were to anticipate a material risk of nationalization of gaming businesses in Argentina.

A revision of the outlook to stable depends largely on Codere's ability to improve its liquidity position, such as through the successful refinancing of its senior credit facility and the maintenance of adequate covenant headroom over the next 12 to 24 months.

Related Criteria And Research

-- Spanish Gaming Company Codere Proposed $250 Million Senior Notes Assigned 'B' Issue Rating; '3' Recovery Rating, Jan. 26, 2012

-- Principles Of Credit Ratings, Feb. 16, 2011

-- Methodology And Assumptions: Liquidity Descriptors For Global Corporate Issuers, Sept. 28, 2011

-- Methodology: Business Risk/Financial Risk Matrix Expanded, Sept. 18, 2012

-- Hybrid Capital Handbook: September 2008 Edition, Sept. 15, 2008

-- Update: Jurisdiction-Specific Adjustments To Recovery And Issue Ratings, June 20, 2008

-- 2008 Corporate Criteria: Analytical Methodology, April 15, 2008

((Bangalore Ratings Team, Hotline: +91 80 4135 5898, Bhanu.priya@thomsonreuters.com, Group id: BangaloreRatings@thomsonreuters.com, Reuters Messaging: Bhanu.Priya.reuters.com@reuters.net))