Fitch Assigns Final 'BBB' Rating to Downer's JPY Medium-Term Notes

(The following statement was released by the rating agency) Fitch Ratings-Sydney-May 30: Fitch Ratings has today assigned a final rating of 'BBB' to Downer Group Finance Pty Limited's (Downer Finance) JPY10 billion fixed-rate medium-term notes (MTNs) due 30 May 2033. The notes (ISIN: XS1824467184) were issued under Downer Finance's AUD1 billion debt programme. The notes are unconditionally, jointly and severally guaranteed by Australia-based Downer EDI Limited (BBB/Stable) and its subsidiaries currently representing at least 90% of the group's consolidated total tangible assets and EBIT. As a result of the guarantee structure, Fitch regards the credit risk associated with the notes to be the same as that of the senior unsecured obligations of Downer. This rating follows the receipt of the relevant MTN transaction documents confirming information already received. KEY RATING DRIVERS Spotless Improves Diversification: Downer's Spotless acquisition continued its portfolio transformation away from the cyclical mining and engineering, construction and maintenance sectors towards the infrastructure and civil sectors. The service segments' contribution rose to around 86% of total group revenue in the year ended June 2017 (FY17) on a pro-forma basis, from 69% in FY14 for Downer on a standalone basis. The acquisition also created the largest diversified-services group in Australia and New Zealand, which can offer end-to-end service capabilities. The combined group's work-in-hand rose to AUD39.2 billion by end-2017 from AUD22.5 billion in FY17 for Downer alone. Spotless Integration Risk: Fitch believes Downer's strong record in integrating newly acquired companies - most recently following the 2014 acquisition of Tenix - and executing business turnarounds reduces execution risk around the integration of Spotless. Downer's actions to date include performing a comprehensive review of Spotless's operations and financial position and the integration of a number of key business operations, including the creation of a joint bidding committee. We understand Downer intends to enhance Spotless's risk-management capabilities and major bid approval processes but there is no evidence of this enhanced oversight across Spotless given the early stages of integration. High Earnings Visibility: The group's earnings visibility has been bolstered by the Spotless acquisition. Around 85% of Spotless's revenue is contracted, with tenures typically between three and five years. Spotless had public-private partnership-related contracts worth AUD10.9 billion in lifetime revenue within the contract portfolio at end-2017, with tenures typically between 25 and 30 years. The inclusion of these long-term stable contracts in the group's order book complements Downer's improved earnings and cash flow volatility as its project mix transitions towards more regular, lower risk, less capital intensive and maintenance-type work. Focus on Government Spending: Government-related revenue has increased as a proportion of Downer's total revenue base as the Australian economy shifts away from the resources sector and the government prioritises infrastructure spending. In FY17, 58% of Downer's total revenue was government related. Fitch expects this to fall marginally to around 55%, including the Spotless business, which derives around 50% of its facility services revenue from government-related entities. We continue to expect government infrastructure spending to be the primary source of major new opportunities for the combined Downer group over the medium term. Robust Project Risk Oversight: Downer's robust project bidding and execution skills will become increasingly important as competition intensifies across all sectors. Downer's senior management is directly involved in monitoring the bidding and delivery of all major projects to identify potential problems and avoid major cost overruns. Downer has implemented an approval process and changed Spotless's risk-management capability following its acquisition, which we view as positive to the newly formed group's risk profile. Further M&A Detrimental: Additional large, debt-funded M&A may pressure Downer's rating at a time when it has little headroom within its negative rating guidelines. However, we do not expect significant M&A in the short term as Downer remains focused on integrating Spotless and taking advantage of any opportunities the acquisition provides. DERIVATION SUMMARY Downer's scale and diversification across sectors have improved following its Spotless acquisition. However, the combined group is still smaller and less geographically diversified than major global peers, including Vinci S.A. (A-/Stable), accounting for the two-notch differential. Downer has lower leverage than LafargeHolcim Ltd (BBB/Stable), which is counterbalanced by LafargeHolcim's exposure to the inherently cyclical building-materials sector. LafargeHolcim's geographical diversification provides some cash flow stability to the volatility in its sector, and combined with its stronger profitability, leads us to rate them at the same level. Ferrovial, S.A. (BBB/Stable) is among the top Fitch-rated engineering and construction companies. However, its construction margins are under pressure and its UK services business is being weighed down by uncertainty in the country. Notwithstanding these challenges, which are in stark contrast to the favourable environment in Australia, Spain-based Ferrovial has a conservative balance sheet and hence both companies are rated at the same level. KEY ASSUMPTIONS Fitch's Key Assumptions Within Our Rating Case for the Issuer - FY18 financial performance broadly in line with guidance of underlying net profit after tax and before amortisation of acquired intangible assets (NPATA) of AUD295 million before minority interests - Revenue growth from FY19 to FY21 above general forecasts for the Australian economy as Downer continues to benefit from increased investment in public infrastructure in Australia (2017 Australian GDP growth: 2.4%; Fitch forecast revenue growth FY19: 4.8%; FY20: 4.2%; FY21: 4.0%) - Project delivery governance to remain in place with no further major write-offs not already publicly discussed - Capex to increase to around AUD430 million in FY18f, from around AUD240 million in FY17, before moderating to around AUD330 million per year from FY19 to FY21 - Dividend payout ratio between 50%-60% of consolidated underlying NPATA. No dividends to be paid at Spotless. RATING SENSITIVITIES Developments that May, Individually or Collectively, Lead to Positive Rating Action - No positive rating action is anticipated over the medium term due to Downer's elevated leverage from the Spotless acquisition, as well as its geographic concentration and scale. Developments that May, Individually or Collectively, Lead to Negative Rating Action - Adjusted net debt/operating EBITDAR rising to above 2.5x for a sustained period (FY17: 2.4x). - EBITDA margin falling below 6% for a sustained period (FY17: 6.5%). LIQUIDITY Adequate Capital Market Access: Downer has access to a wide range of funding sources, including syndicated loans, capital market debt and equity. Downer will continue to manage each entity's debt on a standalone basis as it was unable to complete a 100% takeover of Spotless. Downer has extended its average debt duration following the refinancing of its AUD200 million syndicated loan due April 2019, now consisting of two tranches each of AUD200 million due in April 2022 and 2023. The issuance of the 15-year bullet fixed-rate yen MTNs has further extended Downer's average debt duration. Spotless's average debt duration has also been extended following the completion of its refinancing to more than three years, from 1.8 years at 27 November 2017. Contact: Primary Analyst Kelly Amato, CFA Director +61 2 8256 0348 Fitch Australia Pty Ltd, Level 15, 77 King Street, Sydney, NSW, 2000, Australia Secondary Analyst Leo Park Associate Director +61 2 8256 0323 Committee Chairperson Vicky Melbourne Senior Director +61 2 8256 0325 Date of Relevant Rating Committee: 15 March 2018 Media Relations: Leslie Tan, Singapore, Tel: +65 67 96 7234, Email: leslie.tan@fitchratings.com. Additional information is available on www.fitchratings.com Applicable Criteria Corporate Rating Criteria - Effective from 7 August 2017 to 23 March 2018 (pub. 07 Aug 2017) https://www.fitchratings.com/site/re/901296 Non-Financial Corporates Hybrids Treatment and Notching Criteria - Effective from 27 April 2017 to 27 March 2018 (pub. 27 Apr 2017) https://www.fitchratings.com/site/re/896881 Non-Financial Corporates Notching and Recovery Ratings Criteria - Effective from 21 December 2017 to 23 March 2018 (pub. 21 Dec 2017) https://www.fitchratings.com/site/re/914144 Additional Disclosures Dodd-Frank Rating Information Disclosure Form https://www.fitchratings.com/site/dodd-frank-disclosure/10032773 Solicitation Status https://www.fitchratings.com/site/pr/10032773#solicitation Endorsement Policy https://www.fitchratings.com/regulatory ALL FITCH CREDIT RATINGS ARE SUBJECT TO CERTAIN LIMITATIONS AND DISCLAIMERS. PLEASE READ THESE LIMITATIONS AND DISCLAIMERS BY FOLLOWING THIS LINK: HTTPS://WWW.FITCHRATINGS.COM/UNDERSTANDINGCREDITRATINGS. IN ADDITION, RATING DEFINITIONS AND THE TERMS OF USE OF SUCH RATINGS ARE AVAILABLE ON THE AGENCY'S PUBLIC WEB SITE AT WWW.FITCHRATINGS.COM. PUBLISHED RATINGS, CRITERIA, AND METHODOLOGIES ARE AVAILABLE FROM THIS SITE AT ALL TIMES. FITCH'S CODE OF CONDUCT, CONFIDENTIALITY, CONFLICTS OF INTEREST, AFFILIATE FIREWALL, COMPLIANCE, AND OTHER RELEVANT POLICIES AND PROCEDURES ARE ALSO AVAILABLE FROM THE CODE OF CONDUCT SECTION OF THIS SITE. DIRECTORS AND SHAREHOLDERS RELEVANT INTERESTS ARE AVAILABLE AT HTTPS://WWW.FITCHRATINGS.COM/SITE/REGULATORY. FITCH MAY HAVE PROVIDED ANOTHER PERMISSIBLE SERVICE TO THE RATED ENTITY OR ITS RELATED THIRD PARTIES. DETAILS OF THIS SERVICE FOR RATINGS FOR WHICH THE LEAD ANALYST IS BASED IN AN EU-REGISTERED ENTITY CAN BE FOUND ON THE ENTITY SUMMARY PAGE FOR THIS ISSUER ON THE FITCH WEBSITE. Copyright © 2018 by Fitch Ratings, Inc., Fitch Ratings Ltd. and its subsidiaries. 33 Whitehall Street, NY, NY 10004. Telephone: 1-800-753-4824, (212) 908-0500. Fax: (212) 480-4435. Reproduction or retransmission in whole or in part is prohibited except by permission. All rights reserved. In issuing and maintaining its ratings and in making other reports (including forecast information), Fitch relies on factual information it receives from issuers and underwriters and from other sources Fitch believes to be credible. Fitch conducts a reasonable investigation of the factual information relied upon by it in accordance with its ratings methodology, and obtains reasonable verification of that information from independent sources, to the extent such sources are available for a given security or in a given jurisdiction. The manner of Fitch's factual investigation and the scope of the third-party verification it obtains will vary depending on the nature of the rated security and its issuer, the requirements and practices in the jurisdiction in which the rated security is offered and sold and/or the issuer is located, the availability and nature of relevant public information, access to the management of the issuer and its advisers, the availability of pre-existing third-party verifications such as audit reports, agreed-upon procedures letters, appraisals, actuarial reports, engineering reports, legal opinions and other reports provided by third parties, the availability of independent and competent third- party verification sources with respect to the particular security or in the particular jurisdiction of the issuer, and a variety of other factors. Users of Fitch's ratings and reports should understand that neither an enhanced factual investigation nor any third-party verification can ensure that all of the information Fitch relies on in connection with a rating or a report will be accurate and complete. Ultimately, the issuer and its advisers are responsible for the accuracy of the information they provide to Fitch and to the market in offering documents and other reports. In issuing its ratings and its reports, Fitch must rely on the work of experts, including independent auditors with respect to financial statements and attorneys with respect to legal and tax matters. Further, ratings and forecasts of financial and other information are inherently forward-looking and embody assumptions and predictions about future events that by their nature cannot be verified as facts. As a result, despite any verification of current facts, ratings and forecasts can be affected by future events or conditions that were not anticipated at the time a rating or forecast was issued or affirmed. The information in this report is provided “as is” without any representation or warranty of any kind, and Fitch does not represent or warrant that the report or any of its contents will meet any of the requirements of a recipient of the report. A Fitch rating is an opinion as to the creditworthiness of a security. This opinion and reports made by Fitch are based on established criteria and methodologies that Fitch is continuously evaluating and updating. Therefore, ratings and reports are the collective work product of Fitch and no individual, or group of individuals, is solely responsible for a rating or a report. The rating does not address the risk of loss due to risks other than credit risk, unless such risk is specifically mentioned. Fitch is not engaged in the offer or sale of any security. All Fitch reports have shared authorship. Individuals identified in a Fitch report were involved in, but are not solely responsible for, the opinions stated therein. The individuals are named for contact purposes only. A report providing a Fitch rating is neither a prospectus nor a substitute for the information assembled, verified and presented to investors by the issuer and its agents in connection with the sale of the securities. Ratings may be changed or withdrawn at any time for any reason in the sole discretion of Fitch. Fitch does not provide investment advice of any sort. Ratings are not a recommendation to buy, sell, or hold any security. Ratings do not comment on the adequacy of market price, the suitability of any security for a particular investor, or the tax-exempt nature or taxability of payments made in respect to any security. Fitch receives fees from issuers, insurers, guarantors, other obligors, and underwriters for rating securities. Such fees generally vary from US$1,000 to US$750,000 (or the applicable currency equivalent) per issue. In certain cases, Fitch will rate all or a number of issues issued by a particular issuer, or insured or guaranteed by a particular insurer or guarantor, for a single annual fee. Such fees are expected to vary from US$10,000 to US$1,500,000 (or the applicable currency equivalent). The assignment, publication, or dissemination of a rating by Fitch shall not constitute a consent by Fitch to use its name as an expert in connection with any registration statement filed under the United States securities laws, the Financial Services and Markets Act of 2000 of the United Kingdom, or the securities laws of any particular jurisdiction. Due to the relative efficiency of electronic publishing and distribution, Fitch research may be available to electronic subscribers up to three days earlier than to print subscribers. For Australia, New Zealand, Taiwan and South Korea only: Fitch Australia Pty Ltd holds an Australian financial services license (AFS license no. 337123) which authorizes it to provide credit ratings to wholesale clients only. Credit ratings information published by Fitch is not intended to be used by persons who are retail clients within the meaning of the Corporations Act 2001 Fitch Ratings, Inc. is registered with the U.S. Securities and Exchange Commission as a Nationally Recognized Statistical Rating Organization (the "NRSRO"). While certain of the NRSRO's credit rating subsidiaries are listed on Item 3 of Form NRSRO and as such are authorized to issue credit ratings on behalf of the NRSRO (see https://www.fitchratings.com/site/regulatory), other credit rating subsidiaries are not listed on Form NRSRO (the "non-NRSROs") and therefore credit ratings issued by those subsidiaries are not issued on behalf of the NRSRO. However, non-NRSRO personnel may participate in determining credit ratings issued by or on behalf of the NRSRO.