Rating action may be premature as Punch review date approaches

Fitch and Moody's have downgraded Punch Taverns' Punch A securitisation less than three weeks before the conclusion of the pub operator's strategic review. The agencies' timing has caught the market off guard, but all eyes remain fixed on the pending revelation of the review's findings.

Paul Crawford, ABS strategist at RBS, believes the downgrade itself is not much of a shock, but the timing certainly is. He explains: "Back in December, Fitch suggested they would not be taking any action until the outcome of the strategic review became clear. Punch has said they will publish the results of the review on 22 March and the day after that announcement Fitch declares this downgrade."

All Punch A notes from class B1 to D1 are now at sub-investment grade and the class M notes are on the cusp. Crawford notes: "Fitch has taken the Punch A class Ms down by five notches, but even more significant are the class Bs, which have been taken to junk. Along with S&P's actions, that puts them out of the index, so theoretically that could result in some technical selling - albeit we would expect it to be limited." Moody's has also downgraded all tranches of the Punch B transaction.

The downgrades now threaten to overshadow the countdown to the conclusion of Punch's strategic review, which already had bondholders coming together to prepare a united front. They formed an Association of British Insurers committee late last year and have been reportedly sounding out Punch's rivals about taking over much of the company's business.

"My understanding is that bondholders were getting fed up with what they considered was Punch or Punch's advisors going to the media and putting out stories about potential outcomes of the strategic review. In response, they created this committee back in December - not least so they could have something of a media fightback. However, it is also about preparing themselves for the conclusion of the review," says Crawford.

He adds: "This is about being prepared for whatever Punch comes along with after this review, so that the bondholders have answers. If Punch had offered a restructuring back in October, then I do not think many of the bondholders would have been in a position to really negotiate."

Crawford says the outcome of any potential restructuring will depend on the extent to which bondholders work together as a united group and feels that they have strengthened their position by acting collectively. However, he believes it was a mistake to allow their discussions with Punch's rivals to become public knowledge.

He says: "I think it is a good thing for bondholders to get together and understand what their rights are and discuss their options. I do not think it is necessarily a sensible thing for the fact that they have been speaking to competitors about how they would feel about running Punch's pubs becoming public knowledge."

For all the talk of Enterprise Inns, Marston's or another competitor being given the keys to Punch's estate, Crawford warns that a change of ownership is not as simple as some might assume. He explains: "It is widely said that Punch may 'walk away' from Punch A and B, but it is not that simple and there is no mechanism to do that."

Crawford continues: "A separate third party would have to come and buy the necessary legal entities, which are subsidiaries of Punch. Punch can stop providing equity support, which would eventually trigger a financial covenant and give increased control to bondholders, but nothing de-links them from Punch as a company."

Punch is set to report on its strategic review, which has been six months in the making, on 22 March. Crawford reckons prioritising financing has been a problem for Punch in the past and says it is important now to have an operational focus.

He says: "I think the strategic review will be predominantly focused on the business of Punch going forward, including the size of the tenant estate and the development of the managed estate. I believe the consequences of the strategic review from a financing perspective should be secondary and might not be too significant for the time being."

Crawford says it is important for Punch to decide on its direction going forward, figure out the size and shape of the tenanted estate as well as its long-term profitability and also determine an appropriate financing structure. He says: "Because of that, I hope the first things to come out of the strategic review are very much operationally focused."

He continues: "I would not rule out Punch suggesting they will focus on operations for another year. I would be more surprised by any kind of nuclear restructuring announcement, including debt write-off or equitisation."

How bondholders react to Punch's proposals will be seen soon enough and Crawford notes that it will ultimately come down to what is value-additive and what is not. Bondholders' options range from doing nothing to enforcing security and appointing an administrative receiver.

Crawford concludes: "Noteholders will be focused on maximising value, but how to do that is not entirely clear. I still consider that a compromise position may be the outcome, with Punch getting to satisfy a perceived equity demand to not have to retain the war chest at plc to support Punch A and Punch B, but also getting to carry on running operations in these pubs. Noteholders should be able to gain in that."

JL