Fitch Downgrades KOFs IDRs' to 'A-'; Outlook Stable

Fitch Ratings has downgraded Coca-Cola FEMSA S.A.B. de C.V.'s (KOF) Long-Term Foreign and Local Currency Issuer Default Rating (IDR) to 'A-' from 'A'. In addition, Fitch has affirmed KOF's National scale long-term rating at 'AAA(mex)' and National scale short-term rating at 'F1+(mex)'. The Rating Outlook is Stable. A full list of rating actions follows at the end of this press release.

The downgrade reflects KOF's deleveraging trend which has been slower than previously expected following the announcement that its Brazilian subsidiary, Spal Industria Brasileira de Bebidas S.A. (Spal), has reached an agreement to acquire 100% of the bottling operations of Vonpar in Brazil. The enterprise value of the transaction is BRL3.6 billion and will be funded by a combination of cash, equity and debt. Fitch projects that KOF's pro forma total debt/EBITDA and net debt/EBITDA will be approximately 2.2x and 2.0x, respectively, by year-end 2017. These leverage metrics are higher than our previous expectation of around 1.5x and 1.3x, respectively, for the same period.

Fitch also considers that the acquisition of Vonpar will bring some benefits to KOF's operations by integrating contiguous territories and capturing synergies of around BRL65 million in the following 18-24 months. Vonpar is one of the largest privately owned bottlers in the Brazilian Coca-Cola system; it operates in the states of Rio Grande do Sul and Santa Catarina, which border KOF's operations in the state of Parana. For the last 12 months (LTM) as of June 30, 2016, the company sold 190 million unit cases (including 23 million cases of beer) and generated sales and EBITDA of BRL2 billion and BRL335 million, respectively.

For the acquisition of Vonpar, Spal will pay around BRL2.4 billion in cash, of which BRL688 million will be exchanged for approximately 27.9 million newly issued KOF series L shares at a value of MXN142.8 per share. In addition, Spal will issue a BRL1.1 billion 3-year promissory note denominated and payable in BRL that will have an option for the seller to be capitalized for KOF's shares at a value of MXN178.5. Fitch estimates in its projections that KOF's total debt will increase by around USD560 million at year-end 2016 after including the acquisitions of Vonpar as well as the ADES transaction announced in June 2016.

KEY RATING DRIVERS

Slower than Expected Deleveraging

Fitch expects that KOF's gross and net leverage ratios will strengthen after closing the acquisition, but at a slower pace than previously expected. On a pro forma basis, including the consolidation of Vonpar and the Philippines in 2017 and KOF's hedged debt, Fitch estimates the company's total debt/EBITDA and net debt/EBITDA will be around 2.2x and 2.0x, respectively, in the next 18-24 months. This compares unfavorably with a gross and net leverage of 1.5x and 1.3x, previously expected by Fitch for the same period. For the LTM as of June 30, 2016, these two figures were 2.4x and 2.0x, respectively.

Consistent FCF:

KOF's ratings incorporate its reliable free cash flow (FCF) generation over the business cycle, which provides financial flexibility. For the LTM as of June 30, 2016, the company's Fitch estimated FCF was MXN3.1 billion after covering capex of MXN11.6 billion and dividends of MXN6.7 billion. Fitch expects KOF to have a FCF-to-revenues margin higher than 2% over the mid- to long-term. This level of FCF margin should provide flexibility to its capital structure and liquidity position.

Solid Business position

KOF's ratings reflect its strong business position as the largest franchise bottler of Coca-Cola products in the world, with operations across Mexico, Brazil, Colombia, Argentina, Venezuela, Central America and the Philippines. Its position is supported by an extensive and well-developed distribution network, solid brand equity of Coca-Cola products, diversified product portfolio and solid execution at the point of sale. Fitch considers KOF to be well positioned to protect its business and maintain a leading market share in its territories over the long term.

KEY ASSUMPTIONS

Fitch's key assumptions within the rating case for the issuer are:

--Revenue growth of 4% in 2016 and around 25% in 2017, including the consolidation of Vonpar and Philippines;

--EBITDA margin around 20% in 2016 and 19% in 2017;

--FCF margin over 2% by 2017;

--Total debt/EBITDA and net debt/EBITDA around 2.2x and 2.0x, respectively, by 2017.

RATING SENSITIVITIES

Developments that may, individually or collectively, lead to negative rating actions include:

--Deterioration in operating performance and profitability leading to negative FCF through the business cycle;

--Debt-financed acquisitions leading to consistent gross and net leverage higher than 3.0x and 2.5x, respectively;

--A several-notch downgrade in Mexico's sovereign ratings could also pressure KOF's ratings.

Developments that may, individually or collectively, lead to positive rating actions include:

--An improvement above Fitch expectations in KOF's operating performance and profitability;

--Debt reductions or higher EBITDA generation that strengthen its gross and net leverage to levels around 1.5x and 1.0x, respectively.

LIQUIDITY

As of June 30, 2016, KOF's liquidity position was ample with a cash balance of MXN15.6 billion and short-term debt of MXN3.4 billion. Its next significant debt maturity is in 2018 for USD1 billion, which is expected to be refinanced before its due date. Fitch believes the company has good access to capital markets and credit facilities with which to face its debt amortization profile in the short and long term.

FULL LIST OF RATING ACTIONS

Fitch has taken the following rating actions:

--Long-Term Foreign Currency Issuer Default Rating (IDR) downgraded to 'A-' from 'A';

--Long-Term Local Currency IDR downgraded to 'A-' from 'A';

--National scale long-term rating affirmed at 'AAA(mex)';

--National scale short-term rating affirmed at 'F1+(mex)';

--Senior notes for USD1 billion due 2018 downgraded to 'A-' from 'A';

--Senior notes for USD500 million due 2020 downgraded to 'A-' from 'A';

--Senior notes for USD900 million due 2023 downgraded to 'A-' from 'A';

--Senior notes for USD600 million due 2043 downgraded to 'A-' from 'A';

--Certificados Bursatiles for MXN7.5 billion due 2023 affirmed at 'AAA(mex)'.

The Rating Outlook is Stable.

Additional information is available at www.fitchratings.com

Applicable Criteria

Corporate Rating Methodology - Including Short-Term Ratings and Parent and Subsidiary Linkage (pub. 17 Aug 2015)

https://www.fitchratings.com/site/re/869362

National Scale Ratings Criteria (pub. 30 Oct 2013)

https://www.fitchratings.com/site/re/720082

Additional Disclosures

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https://www.fitchratings.com/gws/en/disclosure/solicitation?pr_id=1012201

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https://www.fitchratings.com/jsp/creditdesk/PolicyRegulation.faces?context=2&detail=31

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