Overview

• Greene King Finance's liquidity position at the end of the summer trading is better than we had previously expected.
• Although we acknowledge the better trading performance since reopening and the resulting better-than-expected liquidity position, the progression of the COVID-19 pandemic, the second lockdown imposed by the U.K. government, and tougher restrictions presents downside risks that could erase the gains from the summer-trading months.
• Following our full review, we have affirmed our 'BBB (sf)' and 'BBB- (sf)' ratings on the class A and AB notes, respectively. We have kept our rating on the class B notes on CreditWatch negative, given the continuing significant uncertainty stemming from the COVID-19 pandemic.
• Greene King Finance is a corporate securitization of the U.K. operating business of the managed and tenanted pub estate operator Greene King Retailing, the borrower. It originally closed in March 2005 and has been tapped several times since, most recently in February 2019.

LONDON (S&P Global Ratings) Dec. 22, 2020--S&P Global Ratings today affirmed its 'BBB (sf)' and 'BBB- (sf)' credit ratings on Greene King Finance PLC's class A and AB notes, respectively. Our 'BB+ (sf)' rating on the class B notes remains on CreditWatch negative, reflecting the continuing significant uncertainty surrounding the timing and robustness of the COVID-19 recovery and the issuer's available liquidity.

On April 17, 2020, we placed on CreditWatch negative our ratings in this transaction to reflect the potential effect that the U.K. government's measures to contain the spread of COVID-19 could have on both the U.K economy and the restaurant and public houses (pub) sectors (see "34 Tranches On Seven U.K. Corporate Securitizations Placed On CreditWatch Negative Due To COVID-19 Uncertainty"). We resolved the class A and AB CreditWatch placements in July (see "Various Rating Actions Taken On Greene King Finance Corporate Securitization Notes").

Greene King Finance is a corporate securitization of the U.K. operating business of the managed and tenanted pub estate operator Greene King Retailing, the borrower. It originally closed in March 2005 and has been tapped several times since, most recently in February 2019.

The transaction features three classes of notes (A, AB, and B), the proceeds of which have been on-lent by Greene King Finance, the issuer, to Greene King Retailing, via issuer-borrower loans. The revenues generated by the assets owned by the borrower, Greene King Retailing, and its subsidiaries (borrower group) are available to repay its borrowings from the issuer that, in turn, uses those proceeds to service the notes. Each class of notes is fully amortizing and our ratings address the timely payment of interest and principal due on the notes, excluding any subordinated step-up interest.

S&P Global Ratings believes there remains a high degree of uncertainty about the evolution of the coronavirus pandemic. While the early approval of a number of vaccines is a positive development, countries' approval of vaccines is merely the first step toward a return to social and economic normality; equally critical is the widespread availability of effective immunization, which could come by mid-2021. We use this assumption in assessing the economic and credit implications associated with the pandemic (see our research here: www.spglobal.com/ratings). As the situation evolves, we will update our assumptions and estimates accordingly.

Business risk profile

We have applied our corporate securitization criteria as part of our rating analysis of the notes in this transaction. As part of our analysis, we assess whether the operating cash flows generated by the borrower are sufficient to make the payments required under the notes' loan agreements by using a debt service coverage ratio (DSCR) analysis under a base-case and a downside scenario. Our view of the borrowing group's potential to generate cash flows is informed by our base-case operating cash flow projection and our assessment of its business risk profile (BRP), which we derive using our corporate methodology (see "Corporate Methodology," published on Nov. 19, 2013).

Recent performance and events

• The U.K. government gave the go-ahead for pubs to reopen beginning on July 4, 2020.
• On August 21, Greene King Retailing Parent Ltd. released its annual report for financial year ended April 26, 2020 (FY2020), which included 37 non-trading days due to national lockdown imposed by the U.K. government on March 20, 2020.
• For the financial year ending April 2020, the borrower disposed of 30 tenanted pubs and 18 managed pubs. In the same period, the borrower transferred one pub from tenanted to managed and two pubs from managed to tenanted. Overall, in the financial year ending April 2020 the tenanted segment decreased by 4.3% (by number of pubs), whereas the managed segment decreased by about 2.2% (by number).
• Although pubs closed on March 20, 2020, total revenues in FY2020 increased by about 1.8%, to £856.3 million, from the previous year. The results were better than our expectation. The increase in revenue was driven by the acquisition of 166 managed and 13 leased pubs in the previous financial year.
• Reported EBITDA decreased to £204.8 million, marking a year on year decrease of about 5.5%.
• Provided additional information in the annual report states that by the start of August 2020 90% of their total pub estate had reopened and has gradually improved turnover results since reopening. However, the turnover results remained behind the same period last year. Trade results in August have been boosted by the U.K. government's 'Eat Out to Help Out' (EOTHO) scheme.

The COVID-19 pandemic has had a severe impact on the pub and casual dining industry in the U.K. and more generally on the broader macroeconomic environment, although the U.K. recovery has been better than expected. However, the number of reported cases and COVID-19-related fatalities in the U.K. has dramatically increased in October, leading to a second national lockdown in November, which added additional pressure on the industry and on the broader economy. The U.K government imposed tougher post-lockdown restrictions in an attempt to dampen the magnitude of a second wave.

Recent restrictions imposed by the U.K. government to limit the resurgence in infections will delay the economic rebound from this second wave to the second and third quarters of 2021 when the situation should start to normalize.

We expect that some restrictions will remain in place until that time (see "Economic Research: The Eurozone Can Still Rebound In 2021 After Lighter Lockdowns," published on Dec. 1, 2020).

Considering the current trajectory of coronavirus transmissions and reported cases, when coupled with the expected timing of effective and safe vaccines being widely available , we anticipate reduced consumer spending and confidence, muted inflation, and potential for further weakening in the pound sterling as headwinds for pubs and restaurants over the next 12-18 months, the big question being 2021. Given the new, tougher restrictions imposed by the U.K. government and remaining uncertainties surrounding both the path that the COVID-19 pandemic will take in the U.K., the prospects of and timing for vaccines against the virus, we have revised downward our assumptions for 2021. Although the timing and shape of the recovery in trading conditions remains uncertain in the long term, we now expect that a full recovery in operating performance could be gradual over the course of calendar year 2022, and therefore only expect performance to return to FY2019 levels in FY2023 (on a comparable basis).

That said, we continue to assess the borrower's BRP as fair, supported by the group's strong position as one of the top 3 pub operators in the U.K., its well invested estate, and the added flexibility of its cost structure due to high levels of real estate ownership.

Issuer's liquidity position

The issuer's liquidity position at the end of the summer trading is much stronger than we had previously expected.

The outstanding issuer/borrower loan balance after the September payment date is £1,422.0 million. This is after the scheduled amortization has been fully paid for both the June and September payment dates. In order to meet the June payments, the borrower drew on its subordinated loan.

On May 29, 2020, Greene King Ltd. (parent company) advanced to the borrower, Greene King Retailing, on an uncommitted basis, a new subordinated loan facility with a limit of up to £165 million. The subordinated loan can be used toward the working capital and debt service requirements of the borrower. There remains significant headroom under the subordinated loan.

On the September 2020 payment date, following better than expected summer trading, the borrowers had sufficient cash flows from operations to service the term loans owed to the issuer.

The committed liquidity facility remains fully undrawn with £224 million available to the issuer.

Rating Rationale

Greene King Retailing's primary sources of funds for principal and interest payments on the outstanding notes are the loan interest and principal payments from the borrower, which are ultimately backed by future cash flows generated by the operating assets. Our ratings address the timely payment of interest and principal due on the notes, excluding any subordinated step-up coupons.

In our view, the transaction's credit quality has declined due to health and safety fears related to COVID-19. We believe this will negatively affect the business cash flows available to the issuer.

DSCR analysis

Our cash flow analysis serves to both assess whether cash flows will be sufficient to service debt through the transaction's life and to project minimum DSCRs in our base-case and downside scenarios.

In the face of the liquidity stress resulting from the COVID-19 pandemic on those sectors directly affected by the U.K. government's response, our current view is that the hardest-hit sectors will not recover to 2019 levels until 2023 or later. Importantly, it is our current view that the pandemic will not have a lasting effect on the industries and companies themselves, meaning that the long-term creditworthiness of the underlying companies will not fundamentally or materially deteriorate over the long term.

Our downside analysis provides unique insight into a transaction's ability to withstand the liquidity stress precipitated by the closure of pubs in the U.K. Given those circumstances, the outcome of our downside analysis alone determines the resilience-adjusted anchor (see paragraph 46 of our criteria). As a result, our analysis begins with the construction of a base-case projection from which we derive a downside case. However, we have not determined our anchor, which does not reflect the liquidity support at the issuer level--which we see as a mitigating factor to the liquidity stress we expect to result from the U.K. government's response to the COVID-19 pandemic. Rather, we developed the downside scenario from the base case to assess whether the COVID-19 liquidity stress would have a negative effect on level of the resilience-adjusted anchor for each class of notes.

That said, we performed the base-case analysis to assess whether, post-pandemic, the anchor would be adversely affected given the long-term prospects currently assumed under our base-case forecast (see "Comparable rating analysis").

Base-case forecast

We typically do not give credit to growth after the first two years, however in this review, we consider the growth period to continue through FY2023 in order to accommodate both the duration of the COVID-19 stress and the subsequent recovery.

Greene King Retailing's earnings depend mostly on general economic activity and discretionary consumer demand. Given the nature of the COVID-19 pandemic, our base-case assumptions remain very uncertain. As a result of the pandemic's steep escalation, we have revised our previous macroeconomic forecasts to reflect the likely contraction in global output and reduction of consumer spending.

Considering the state of and prognoses for the COVID-19 pandemic, our current assumptions are:

• U.K. real GDP contracting by 11.0% in calendar year 2020 amid a COVID-19-induced slowdown, and rebounding by 6.0% in 2021. Our most recent economic forecasts for the U.K. for 2020 are more pessimistic than our previous forecast, however our expectation for a recovery in 2022 has improved (see "The Eurozone Can Still Rebound In 2021 After Lighter Lockdowns," published on Dec. 1, 2020).
• We anticipate revenues in FY2021 (on a comparable basis) to be about 44% below the FY2019 levels. We anticipate revenues to decline in FY2021 resulting from a second lockdown, followed by a period of restrictions on social interaction and menu offering. This is also based on our expectation that trading restrictions will ease progressively in the second and third quarters of calendar year 2021, as one or more vaccines for COVID-19 are expected to become widely available.
• We anticipate that trading levels will only fully recover to FY2019 levels in FY2023 (on a comparable basis), impacted by a deteriorated macroeconomic environment, as well as a potential reduction in long-term footfall in city centres. That said, we anticipate trading levels to show signs of full recovery through FY2022 (on a comparable basis).
• While the pandemic will represent a blow to Greene King Retailing's topline, the group benefits from the comprehensive set of measures implemented by the U.K. government to alleviate the short-term effect on its cost structure. Having furloughed most of its staff over the first lockdown and benefitting from a 12-month business-rate holiday, coupled with the relatively low amount of rent costs (due to the high proportion of company owned sites), we anticipate the borrower will control operating expenditures over the course of FY2021. That said, we expect its EBITDA margins to remain under pressure, driven by increased staff needs to enforce safety measures and lower volumes due to limited capacity and social interaction constraints.
• Due to the topline shortfall and deterioration on profitability margins, we anticipate Greene King Retailing to report muted EBITDA in FY2021. We anticipate S&P adjusted EBITDA margins to fall to below 20% in FY2021 (on a comparable basis) compared to 25.8% in FY2019 and 22.8% in FY2020.
• We also expect the borrower to reduce capital expenditures (capex) to about £24.3 million in FY2021 in order to preserve cash. As operating performance recovers, we anticipate that capex levels will normalize, going back toward £70 million in FY2023 on a capitalized basis.
• Weakened earnings and tax relief will likely result in limited tax payments under our assumptions in FY2021 through to FY2023.

Downside DSCR analysis

Our downside DSCR analysis tests whether the issuer-level structural enhancements improve the transaction's resilience under a moderate stress scenario. Greene King Retailing falls within the pubs, restaurants, and retail industry. Considering U.K. pubs' historical performance during the financial crisis of 2007-2008, in our view, a 15% and 25% decline in EBITDA from our base case is appropriate for the managed and tenanted pub subsectors, respectively.

Our current expectations are that the COVID-19 liquidity stress will result in a reduction in EBITDA that is far greater than the 15% and 25% declines we would normally assume under our downside stresses for managed and tenanted pubs, respectively. Hence, our downside scenario comprises both our short- to medium-term EBITDA projections during the liquidity stress period and our long-term forecast, but with the level of ultimate recovery limited to 15% and 25% lower than what we would assume for a base-case forecast over the long-term for managed and tenanted pubs, respectively. For example, our downside scenario forecast of EBITDA reflects our base-case assumptions for recovery into FY2023 until the level of EBITDA is within 85% and 75% of our projected long-term EBITDA for managed and tenanted pubs, respectively.

Our downside DSCR analysis resulted in strong resilience scores for the class A, AB, and B notes, which are higher than the satisfactory resilience score achieved in our previous review on the class AB and B notes, and is unchanged for the class A notes (see "Transaction Update: Greene King Finance PLC," published on Aug. 13, 2018, and "New Issue: Greene King Finance PLC," published on Feb. 22, 2019). This reflects the headroom above a 1.80:1 DSCR threshold that is required under our criteria to achieve a strong resilience score after considering the level of liquidity support available to each class.

Each class's resilience score corresponds to rating categories--excellent at 'AAA' through vulnerable at 'B' (see paragraph 46 of our corporate securitization criteria). Within each category, the recommended resilience-adjusted anchor reflect notching based on where the downside DSCR falls within a range (for the class A, AB, and B notes). As a result, the resilience-adjusted anchors for the class A, AB, and B notes would not be adversely affected under our downside scenario.

Liquidity facility adjustment

Given that we have given full credit to the liquidity facility amount available to each class of notes, a further one-notch increase to any of the resilience-adjusted anchors is not warranted.

Modifiers analysis

We applied a one-notch downward adjustment to the class AB notes to reflect their subordination and weaker access to the security package compared to the class A notes, which is unchanged from our previous review.

Comparable rating analysis

As mentioned, we performed our base-case analysis to assess whether, post-COVID-19, the anchor would be adversely affected given the long-term prospects currently assumed in our base-case forecast. Based on our post-COVID-19 base-case analysis, which reflect the performance from FY2023 and beyond, we have concluded that the anchor would not be adversely affected.

Counterparty risk

Our ratings are not currently constrained by the ratings on any of the counterparties, including the liquidity facility, derivatives, and bank account providers.

The notes are supported by hedging agreements with the London branch of Banco Santander, S.A. (interest rate swaps for the floating-rate class B1 and B2 notes) and HSBC Bank PLC (interest rate swap on the floating-rate class A5 notes). We assess the collateral framework as weak under our counterparty criteria, notably due to the type of collateral that can be posted, which we do not view as eligible under our criteria, or lower haircuts for collateral denominated in currencies other than British pound sterling. But because the replacement commitment is sufficiently robust, based on our counterparty criteria, we give credit to it. As the swaps in this transaction are collateralized, we consider the resolution counterparty rating (RCR) on the swap counterparty as the applicable counterparty rating.

Outlook

Over the next 12 to 24 months, we expect that Greene King Retailing's operating performance will remain under pressure against a backdrop the current economic shock stemming from the COVID-19 pandemic and the U.K. government's response. As we receive more issuer-specific and industry-level data, and as the course of both the coronavirus and any resulting restrictions become clearer, we will assess the transaction to determine whether rating actions are warranted.

Downside scenario

We may consider lowering our ratings on the class A, AB, and B notes if their minimum projected DSCRs in our downside scenario have a material-adverse effect on each class's resilience-adjusted anchor.

We could also lower our anchor or the resiliency-adjusted anchor for the class A notes if the business' minimum projected DSCR falls below 1.40:1 in our base-case DSCR analysis or 1.30:1 in our downside scenario. Regarding the class AB or class B notes, we could also lower our anchor or the resiliency-adjusted anchor if the business' minimum projected DSCR falls below 1.30:1 in either our base-case DSCR analysis or our downside scenario. This could happen if a deterioration in trading conditions reduces cash flows available to the borrowing group to service its rated debt.

Upside scenario

Due to the current economic situation, we do not anticipate raising our assessment of Greene King Retailing's BRP within the next two years.

CreditWatch resolutions

As we develop better clarity on the expected size and duration of reductions in the transaction's securitized net cash flows, we will evaluate whether adjustments to our base-case and downside projections are appropriate. Changes in our projections could adversely affect our DSCR estimates, which, in turn, could put pressure on our ratings on the notes. If longer-term effects emerge that reshape the economy or industry, we may revise our assessment of a company's BRP, which could also result in rating changes. We expect to resolve the CreditWatch placements within the next 90 days when we have a clearer guidance on the overall effect on each company's liquidity during the shutdown, our evolving view of the severity and duration of the COVID-19 driven stress, the prospects for recovery, and the long-term effects on the U.K economy and the pub industry.

Related Criteria

• Criteria | Structured Finance | General: Counterparty Risk Framework: Methodology And Assumptions, March 8, 2019
• Criteria | Structured Finance | ABS: Global Methodology And Assumptions For Corporate Securitizations, June 22, 2017
• Legal Criteria: Structured Finance: Asset Isolation And Special-Purpose Entity Methodology, March 29, 2017
• Criteria | Structured Finance | General: Global Framework For Assessing Operational Risk In Structured Finance Transactions, Oct. 9, 2014
• Criteria | Structured Finance | General: Global Framework For Cash Flow Analysis Of Structured Finance Securities, Oct. 9, 2014
• General Criteria: Methodology Applied To Bank Branch-Supported Transactions, Oct. 14, 2013
• Criteria | Structured Finance | General: Global Derivative Agreement Criteria, June 24, 2013
• Criteria | Structured Finance | General: Criteria Methodology Applied To Fees, Expenses, And Indemnifications, July 12, 2012
• General Criteria: Global Investment Criteria For Temporary Investments In Transaction Accounts, May 31, 2012
• General Criteria: Principles Of Credit Ratings, Feb. 16, 2011

Related Research

• Credit Conditions Europe: Waiting for Relief, Dec. 3, 2020
• The Eurozone Can Still Rebound In 2021 After Lighter Lockdowns, Dec. 1, 2020
• U.K. Pub Corporate Securitizations Ratings Remain On CreditWatch With Continued Uncertainty As Winter Approaches, Oct. 22, 2020
• SLIDES: EMEA Retail & Restaurants: Industry Overview, Credit Trends, And Outlook, Oct. 16, 2020
• Q3 European Economic Snapshots Indicate A Second COVID-19 Wave Is Dampening The Recovery, Oct. 14, 2020
• Credit Conditions Europe: Ill-Prepared For Winter, Sept. 29, 2020
• The Eurozone Is Healing From COVID-19, Sept. 24, 2020
• Various Rating Actions Taken On Greene King Finance Corporate Securitization Notes, July 14, 2020
• Credit Conditions In Europe Darken As Costs Of Lockdowns Add Up, April 27, 2020
• Europe Braces For A Deeper Recession In 2020, April 20, 2020
• 34 Tranches On Seven U.K. Corporate Securitizations Placed On CreditWatch Negative Due To COVID-19 Uncertainty, April 17, 2020
• Coronavirus Dramatically Increases Risk For Already Stressed Retail And Restaurant Sectors, March 20, 2020
• Transaction Update: Mitchells & Butlers Finance, Oct. 31, 2019
• Standard & Poor's Cash Flow Evaluator-Engine, June 21, 2019
• Global Structured Finance Scenario And Sensitivity Analysis 2016: The Effects Of The Top Five Macroeconomic Factors, Dec. 16, 2016
• European Structured Finance Scenario And Sensitivity Analysis 2016: The Effects Of The Top Five Macroeconomic Factors, Dec. 16, 2016