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Moody's Downgrades Avon Products (AVP) to 'Ba2'; Efforts to Improve Operating Performance Seen as Not Sufficient

May 1, 2015 12:13 PM EDT

Moody's Investors Service downgraded Avon Products (NYSE: AVP) (Avon) Corporate Family Rating (CFR) to Ba2 from Ba1. Moody's also downgraded the Probability of Default Rating to Ba2-PD, and lowered the Speculative Grade Liquidity (SGL) rating to SGL-2. The downgrade of the CFR reflects Moody's concern that efforts to improve operating performance are not sufficient to offset the confluence of headwinds the company is facing -- including FX volatility, inflation, the IPI tax in Brazil and the continuing decline in active representatives. Moody's expects that free cash flow will decline meaningfully and leverage will increase to more than 5 times by the end of 2015. "It may be difficult for Avon to turn around its performance given the competitive and macroeconomic challenges the company is facing in key markets -- particularly since it is happening against a backdrop of significant FX volatility that is diminishing operating cash flow," said Nancy Meadows, a Moody's senior analyst and Vice President. That said, Avon benefits from significant scale, a global footprint, good liquidity and no near term maturities. The rating outlook is negative.

The following ratings were downgraded:

Issuer: Avon Products, Inc.

Corporate Family Rating to Ba2 from Ba1

Probability of Default Rating to Ba2-PD from Ba1-PD

Senior Unsecured Regular Bond/Debentures to Ba3 (LGD 5) from Ba1 (LGD4)

Senior Unsecured Shelf to (P)Ba3 from (P)Ba1

Speculative Grade Liquidity Rating lowered to SGL-2 from SGL-1

The outlook is negative.

RATINGS RATIONALE

Avon's Ba2 Corporate Family Rating (CFR) reflects continued declines in revenues and earnings and challenges retaining active representatives despite its position as one of the largest global direct selling companies, strong brand recognition and broad geographic diversification. Avon faces competitive and structural challenges associated with the direct sales distribution model and is struggling to slow the decline in active representatives, a key to stabilizing performance. With approximately 90% of earnings outside the US, Avon is also vulnerable to FX volatility that will negatively impact earnings and cash flow in 2015. Moody's believes that exclusive reliance on direct sales diminishes the company's flexibility to adapt and maintain market share in a changing global consumer environment. Changes in its markets include retail penetration in developing markets which provide more alternative buying channels for consumers, competing beauty suppliers looking to developing markets for growth, and consumer buying habits which are changing globally including the ongoing growth of digital commerce. These challenges are evolving gradually, however, allowing Avon to maintain a sizable revenue base and positive - though declining - free cash flow. Avon is also exposed to moderate cyclical swings as its products represent more discretionary purchases than many other non-durable consumer products. Slow or negative economic growth in key markets such as Brazil and Russia will present an additional operating challenge in 2015 and 2016.

The two-notch downgrade of the senior unsecured notes reflects the downgrade of the CFR as well as corrections to the Loss Given Default model used by Moody's in rating this transaction. In the October 10, 2014 rating action, the Loss Given Default model incorrectly ranked operating company debt the same as the senior unsecured unguaranteed notes at the holding company, rather than reflecting the senior ranking of operating company debt. The error has now been corrected, and today's actions reflect this change.

The negative outlook reflects the risk that operating performance and credit metrics will continue to weaken over the next 12 to 18 months due to competitive and structural challenges in the context of heightened FX volatility, macroeconomic challenges in key markets, and continued declines in active representatives globally.

Weak execution of turnaround initiatives, market share pressure, or an inability to restore and sustain growth in representative levels and organic sales could lead to a downgrade. Avon's ratings could also be downgraded if Moody's comes to expect that debt-to-EBITDA leverage is not likely to be sustained below 4.5x or if free cash flow or the company's liquidity position deteriorates.

An upgrade is unlikely in the near to intermediate term given expected operating pressures. Avon would need to demonstrate successful execution of its turnaround initiatives, and generate sustained growth in active representatives and organic sales before we will consider an upgrade. Avon would additionally need to generate strong cash flow and maintain a solid liquidity position to be upgraded.

Please see the credit opinion on moodys.com for additional information on Avon's ratings.

The principal methodology used in these ratings was Global Packaged Goods published in June 2013. Other methodologies used include Loss Given Default for Speculative-Grade Non-Financial Companies in the U.S., Canada and EMEA published in June 2009. Please see the Credit Policy page on www.moodys.com for a copy of these methodologies.



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