Bloomberg — What was once one of the biggest retail groups in Chile faces a potential credit downgrade after spending big on a push into e-commerce.
Falabella SA (FALAB) operates in seven countries and helped bring furniture store IKEA of Sweden AB to Latin America. But its attempt to compete with online giants Amazon.com Inc. (AMZN) and MercadoLibre Inc. (MELI), which ramped up just as consumer spending in the region plunged, has marred its balance sheet.
The Santiago-based company’s market value is now about a third of what it was at its peak, and last week it announced the departure of its top executive.
Falabella “seems to have lagged behind in its competition with MercadoLibre and it hasn’t been able to capitalize on its strength in physical retail,” Carolina Ratto, an equity analyst at Credicorp Capital, said in a report to investors.
Recent moves in the bond market suggest Falabella debt is heading for a junk rating, with traders trying to get ahead of it.
The retailer’s notes are trading at spreads far above those of other BBB bonds and more in line with companies rated BB, according to data compiled by Bloomberg. This means the market is already incorporating a potential move to junk, and news of Gaston Bottazzini’s resignation as chief executive officer on Sept. 5 did little to reverse that trend.
Named to the top job in 2018, he oversaw Falabella’s push into e-commerce. The company acquired online operator Linio that year and announced a $800 million capital increase to fund its expansion, as well as the joint venture with Ikea.
That bet hasn’t paid off. Chile’s social unrest in 2019, the Covid pandemic and the economic slowdown that followed have eroded revenue and profits.
In 2020, Falabella restructured Linio under the falabella.com brand amid criticism it overpaid for the company. Then the next year, it allocated more than 50% of its capital budget to online operations and logistics. It even hired Pawn Stars reality television personality Rick Harrison as part of an advertising campaign to relaunch the brand.
Falabella’s balance sheet also ballooned as a result. Its ratio of debt to earnings before interest, taxes, depreciation and amortization jumped to 6.8 times in 2022 from 3.5 in 2018.
Before Bottazzini took the reins, Falabella was the largest publicly-traded company in Chile’s benchmark S&P IPSA stock index with a market value of 15.2 trillion pesos, or almost $24 billion. Today, it’s worth just 5.2 trillion pesos.
Its second-quarter earnings report, released Aug. 29, showed a 50% plunge in profits from a year earlier. Two days later, S&P Global Ratings warned it could downgrade Falabella’s BBB- rating in three months time if doesn’t show a clear path to deleveraging. Fitch also rates it BBB- with a negative watch that could lead to a ratings cut.
The company’s dollar bonds due 2032 have lost 4.1% since the earnings report, the worst performance of dollar-denominated Chilean corporates over that period. Its 2027 notes have lost 2.8%.
“Judging by what is internalized in market prices, we believe that the company is trading more like a BB+ than a Chilean BBB-,” Benjamin Muñoz, a fixed income trader at asset manager Nevasa in Santiago, said by email.
Since mid-August, the spread on Falabella’s 2032 bonds has gained 77 basis points to 297. That’s wider than the 290 basis-point spread on food producer Agrosuper’s notes, which have a junk rating from Moody’s. Pulp producer Inversiones CMPC’s investment-grade bonds, meanwhile, have a spread of 189 basis points.
“Falabella’s spreads are justified because leverage has been increasing way above an investment grade,” Sebastian Cruz, an analyst at Seminario SAB in Lima, Peru, said by email. The bonds are still falling “because they failed to announce anything substantive to lower debt.”
In its Aug. 30 conference call, the company said it had identified as much as $400 million in potential asset sales to pay down debt, mostly real estate and distribution centers. Analysts at Banco de Credito e Inversiones recently suggested Falabella could sell part of its nearly 60% stake in mall operator Plaza SA, which would be worth about $1.7 billion.
Someone new will be in charge of those potential changes. Bottazzini is due to leave on Jan. 1 and his replacement hasn’t been announced. “We are working on monetization plans for other assets that we will communicate to the market during this year,” the company said Friday in an emailed statement.
Falabella’s controlling families, which collectively own nearly 70% of the stock, have overhauled the board as well. Enrique Ostale, former CEO of Walmart Inc.’s Chilean unit and its Latin American operations after that, was named chairman in April — the first non-family member to hold that post.
The company has appointed a new general manager for Peru, its biggest market outside Chile, and a new CEO for Banco Falabella. It also announced it would discontinue its digital wallet, FPay.
“Bottazzini’s departure and Ostale’s arrival represent a significant change in the company’s strategic orientation, which has been criticized due to the large investments in its digital strategy without generating clear benefits,” Creditcorp’s Ratto said.
Falabella disagreed that its strategy had changed. The company said it remains “focused on digitization and recovery of growth and profitability, while strengthening and improving our value proposition to customers.”
But the retailer will have to announce something else soon to keep its investment grade, according to Cruz.
“Even with a change at the top, the opinion on credit remains the same,” the Seminario analyst said. “They need a more substantial asset monetization plan to decrease leverage while economic conditions improve.”
--With assistance from Sebastian Boyd
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