AA - Updated model and likely outcome if no bid materialises

All,

Post H1 results we have updated our model here.

We maintain our 5% of NAV position in the Class B2 notes following the release of H1FY21 numbers.  However, results are only part of the story, as the Company continues its discussions re: takeover.   The numbers have shown stability, and results excluding driving schools (which they no longer report separately, but would have been shut for the majority of the reporting period) was excluded from the numbers, the top-line growth would show even greater stability.   

However, trading levels going forward will be dominated by the discussions with TowerBrook/Warburg Pincus and attempts by the Company to deleverage if the bid does not materialise.

There is no imminent default on the horizon and no significant trigger.   We understand management are in back-up discussions re: alternative deleveraging plans, but given the sensitive nature of and emphasis the bidding process, we have no further details at this point.  The business does not need fresh cash.  Any cash injection would be used to reduce leverage. 

Our model assumptions result in EBITDA falling to £320-330m from current levels of £350m.  This is a conservative scenario and the Company has reiterated its guidance for EBITDA  FY21 to be marginally lower than FY20's level of £350m.  Any Plan B, including a rights issue, should aim to de-lever the Company.  A rights issue has the benefit of deleveraging with limited impact on B notes.  Despite the concentrated nature of the shareholder register, it is very difficult to foresee a rights issue in any meaningful size given a) investors, privy to private information, have walked away, and b) the highly dilutive nature required given the small market capitalisation of the Company currently (<£200m).

The alternative is a debt for equity swap, partially or in full of the B notes which would reduce leverage significantly.  This would be difficult for shareholders to take, but if they have rejected a rights issue, this might be the only alternative.  However, conjoling existing bondholders (mind significant cross-holdings between A's, B's and shares) to convert will be difficult as long as NCF remains positive and no trigger/default.

Valuation: At 6.0x leverage, the RAC shareholders have enjoyed significant dividends over the prior years - £40m, £54m and although not yet paid, up to £71m for FY18, FY19, and FY20 respectively.  Both companies are comparable in EBITDA and FCF generation, with the AA admittingly lagging.  Leverage through the A notes at AA is 6.0x (trading around par), NCF before B notes are £70m p.a., 20% of EBITDA.  This would equate to an acceptable yield of 9% based on £570m of bonds plus £200m equity market cap (no dilution). 

The above analysis points to the motivation of both the bidding consortium and any large B bondholders who are seeking to take control of the Company.  Any restructuring, therefore, should be executable via a mere voluntary exchange as opposed to an aggressive scheme of arrangement.  

Happy to discuss,

Tomás

_________________________
Tomás Mannion
2 Stephen Street
London W1T 1AN
E: tmannion@sarria.co.uk
T: +44 20 3744 7009

M:+44 7786 705 806
www.sarria.co.uk