Purmo issued a EUR 60 million hybrid bond, interest rate 9.5%

Translation: Original comment published in Finnish on 2/7/2023 at 7:47 am.

Yesterday, Purmo announced that it had issued a EUR 60 million hybrid bond with a 9.5% interest rate. This was in line with the plan announced by Purmo on Monday and the interest rate was at the level we expected. Our previous comment on the hybrid loan can be found here. Purmo's leverage was at the upper limit of its target level (net debt/adj. EBITDA 3x) at the end of 2022. A hybrid bond that is considered equity in accounting is a way of lowering leverage and/or improving the company’s financial leeway.

Leverage was rising above the target level in the first half of 2023

Purmo's net debt/adj. EBITDA was 3.0x at the end of 2022, while the target is to be at 3x or below it. In addition, working capital is seasonally committed early in the year and earnings are still expected to decline at the beginning of this year. Non-recurring costs of the company's efficiency program will burden cash flow this year. Thus, without the hybrid bond, the company would probably have exceeded its target level during H1’23. As the company also wants to be active in acquisitions and pay good dividends, the hybrid bond appears to be the company's solution to strengthen its financial position. According to the company, the funds will not be used to pay existing debts, so with the bond the company apparently prepares for both near-term financing needs and possible acquisitions.

The hybrid bond is treated as equity in IFRS accounting. The EUR 60 million hybrid bond lowers reported net debt/adj. EBITDA to about 2.3x with the figures at the end of 2022. We believe, however, that this is more technical, because a hybrid bond is still a loan by nature, even if it is considered equity in accounting. On the other hand, the hybrid bond allows investments/acquisitions without breaking the 3x target level or at least the potential overshoot is smaller.

The interest rate of the hybrid bond is high relative to the return on capital, and puts downward pressure on estimates

The interest rate of the hybrid bond is 9.5%. We feel that the interest rate level is high for Purmo considering that our return on capital estimate is only good 10% in the next few years. This means and annual interest cost of almost EUR 6 million. This is a considerable amount compared to the net operating profit/free cash flow of EUR 40-50 million that we expect in the next few years. The interest rate on a hybrid bond is not recognized in the income statement, however, but it puts downward pressure on our cash flow estimates.