Fiat Chrysler rating could come under pressure

A multi-billion-euro cash outflow could renew pressure on the rating or the positive outlook. Fiat Chrysler has healthy liquidity.

fca Fiat ChryslerFiat Chrysler Automobiles N.V.’s (FCA) ‘BB-‘/Positive rating could come under pressure if allegations from the US Environmental Protection Agency (EPA) are confirmed, Fitch Ratings says.

The EPA has issued a notice of violation to FCA with respect to the emissions control technology used in more than 100,000 vehicles sold in the US since 2014. Based on figures disclosed by the EPA, civil penalties of up to USD44,539 per vehicle may apply, meaning a civil fine of up to USD4.6bn. Criminal penalties could be added if Fiat Chrysler were proven to have used a defeat device to defraud regulators and consumers, similar to Volkswagen AG (BBB+/Negative). The EPA said it is investigating whether FCA’s emission control devices constitute defeat devices.

Fitch Ratings analysts’ have previously identified weak free cash flow generation as a major credit weakness for the group. While Fitch expects underlying cash generation to strengthen in the next two to three years, a multi-billion-euro cash outflow could renew pressure on the rating or the Positive Outlook. Nonetheless, on a pro-forma basis, an exceptional EUR5bn outflow would only increase net leverage by approximately 0.4x to less than 1.5x at end-2017. This would still be comfortably below our negative rating guideline of “consolidated FFO adjusted net leverage above 2.5x on a sustained basis”.

A multi-billion-euro cash outflow would also further increase FCA’s gross debt and leverage, which are already high compared with its peers. We expect FFO adjusted gross leverage to have been around 2.5x at end-2016. If allegations are verified, the incriminated vehicles will have to be fixed or recalled, leading to further substantial expenses. In addition, the direct financial impact could be compounded by a negative effect on FCA’s brand image, notably in the US, the group’s largest market.

However, the investigation is still ongoing and may not lead to any penalty. FCA has denied that it was using defeat devices and said that the higher emissions come from a difference of opinion with the EPA over the calibration of its vehicles’ emissions control devices. FCA has also said that it has proposed a number of actions to address EPA’s concerns, including software changes. A software reprogramming could lead to a much lower financial impact.

In addition, Fiat Chrysler has healthy liquidity. It reported EUR13.9bn in cash and equivalents at end-3Q16, excluding Fitch’s EUR3.1bn adjustments for minimum operational cash. Liquidity is also supported by EUR6.2bn of undrawn revolving credit facilities at end-September 2016. This largely covers debt of EUR9.6bn maturing over 4Q16 and 2017 and the maximum penalties and other costs potentially related to this issue. In addition, FCA’s relatively high gross leverage is offset by the substantial cash maintained by the group, and consolidated FFO adjusted net leverage is more commensurate with the rating.

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