Frigoglass - Estimating the impact of war
All,
Please find our slightly updated analysis here.
Perhaps for all the wrong reasons, but we were astonished to see how well Frigoglass had coped with the disruption caused by the fire at its dominant Romanian plant. We have since been warning of its resultant excessive Russian exposure as most of the volume had been shifted to its Oryol plant, halfway between Moscow and Kyiv. Of course, war has since broken out. The market considers it a yield question. So what do we make of it?
Sanctions and Capital Controls:
- Of the €34m of debt in Frigoglass Eurasia LLC, lines €25m are under a series of RCFs with Sberbank, which to whatever extent drawn should constitute the majority of debt in Russia.
- Sberbank has been targeted in the second round of sanctions and has had its European assets frozen.
- Capital Controls should further add to the difficulties in the subsidiary.
- From the figures released this morning, it appears that the Russian business, as far as it is facing Russia as a market, is profitable and that raw materials for volumes to be exported to Europe continue to be sourced from the west. So we could imagine a netting of revenues and expenses on either side of the border that leaves enough domestic cash flow in Russia to pay the bills there and keeps the remainder in Greece. This is how it will have been set up in the first place anyway, so maybe there are only minor transfer pricing adjustments required to balance the books.
FX:
- The figures relating to the Russian operation released yesterday carefully avoided giving a conclusive picture of the situation. Sales figures only related to the Russian and Ukrainian market, while COGS figures only related to raw materials sourced from Russia. Between them, the company made €12m gross margin in 2021. Expenses were not detailed, but we estimate between €7m and €10m.
- So EBITDA loss is not something Frigoglass can afford a lot of, but at the current price of the Ruble, it is contained to approx. €1m.
- Note, that Frigoglass now have a large proportion of expenses in Russia, which will just have dropped 20% in FX. Despite the risks involved (or because), this could more than offset the FX headwinds in the Russian domestic business.
- We do not know the extent of FX hedging the company has entered into when shifting these operations to Russia.
Russian Operation:
- We do not know the extent of the current export business from Russia to Europe and can only infer. In 2018, the Romanian plant was responsible for half the ICM production and the Russian plant for some 27% - i.e. 3/4 of ICM volumes together. Those volumes would have been primarily targeted at the European market, which incidentally accounts also for 3/4 of ICM sales.
- So at stake now - in one way or another - should be 3/4 of the ICM business - the unit that Frigoglass owns substantially 100% of.
X-border "Supply Chain Disruption":
- In their press release yesterday, Frigoglass admitted facing "supply chain disruptions on movements of products and importation of raw materials”. To us this means that predictably borders are closed in the south and to the extent borders are still open to Lithuania, trucks will be routed far around Ukraine and probably Belarus too.
- So the best case is just some added inventory and logistics cost. The worst case is a full halt to exports, even if that is not yet a reality (a lot of things weren’t a reality only a week ago).
Status Quo:
- Frigoglass should be able to deal with capital controls and probably the sanctions against Sberbank.
- The FX situation should be contained to €1m headwind on the Russian business, but this might be offset by the large proportion of Expenses that are now subject to Ruble.
- As long as borders between the West and Russia remain open, Frigoglass should be able to trade with manageable disruption.
- The day the west suspends all trade with Russia and closes all borders, if it comes before the Romanian plant is finished, Frigoglass has an insurmountable problem.
- The risk of border closures ultimately remains.
Positioning:
- In our great book rotation in the last two days, we have not taken a position in Frigoglass, despite its bonds having dropped a further 4 points.
- For us, a name that could lose or see very heavily disrupted 3/4 of its main business is not a 15% YTM proposition. In the current situation, however, with the Ukrainian conflict in full swing, it is also hard to say that we would be interested at 20% or 25% YTM either (low 70s mid-60s respectively). Much would then depend on how far the Romanian re-build has progressed and how fast Frigoglass could re-locate operations elsewhere (perhaps Romania) yet again.
The Glass division only makes a proportionate €15m of FX challenged EBITDA on a flat net debt position locally. So accounting for ca. 40c/€ of the SSNs on a bad day.
- We are looking for a relaxation of the current conflict, which may be some time away. Meanwhile, we are concerned the conflict may deepen as the West will tussle with Russia over a de-militarised zone.
Please reach out to discuss,
Wolfgang
E: wfelix@sarria.co.uk
T: +44 203 744 7003