Health and Happiness (H&H) Int'l. Hldgs. Ltd. -- Moody's assigns Ba3 to Health and Happiness' proposed senior notes

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Rating Action: Moody's assigns Ba3 to Health and Happiness' proposed senior notesGlobal Credit Research - 17 Jan 2022Hong Kong, January 17, 2022 -- Moody's Investors Service ("Moody's") has assigned a Ba3 senior unsecured rating to the proposed senior notes to be issued by Health and Happiness (H&H) International Holdings Limited. (Ba2 negative).H&H will use the bond proceeds to refinance the Term Loan Facility and the Senior Revolving Credit Facility which were utilized to fund a portion of the total amount payable for the acquisition of Zesty Paws, LLC.On 4 October 2021, H&H announced the completion of the acquisition of Zesty Paws.RATINGS RATIONALE"The proposed issuance, if successful, will improve H&H's liquidity profile by securing longer-term funding for the acquisition," says Shawn Xiong, a Moody's Assistant Vice President and Analyst.H&H's Ba2 corporate family rating reflects (1) H&H's leading position among domestic infant milk formula (IMF) and vitamin providers in China as well as among herbal and mineral supplements (VHMS) providers in Australia, (2) its resilient operational and financial profile during the coronavirus pandemic, (3) its expected free cash flow generation, and (4) its still adequate liquidity position and track record of deleveraging post large debt-funded acquisitions.Although the Zesty Paws acquisition will improve H&H's operational profile in terms of scale and revenue diversification by bolstering its pet nutrition and care segment, the strong growth appetite leads to the substantial increase in debt with limited short-term earnings contributions, elevating its financial leverage.Moody's will focus on H&H's projected financial profile, ability to deleverage following the acquisition of Zesty Paws, the growth of its core existing businesses and execution of its growth strategy in its pet nutrition and care (PNC) segment over the next 6-12 months.At the same time, the ratings remain constrained by (1) the company's developing scale in competitive markets, and (2) regulatory and product safety risks.Moody's forecasts that H&H's revenue will rise 3%-4% for 2021, driven by (1) the company's expansion of more offline baby specialty stores, pharmacies and high-end supermarkets in China, (2) its increased focus on domestic consumption in Australia and New Zealand, and (3) higher sales contribution from its PNC segment.Moody's projects the company's adjusted EBITDA margin to decrease to around 17-18% over the next 12-18 months from around 19% for 2020. These projections reflect ongoing changes in its product mix, channels, geographic markets and intensifying competition in some of the BNC product categories in mainland China. H&H's increasing sales of goat IMF products, operational deleveraging in Australia and New Zealand, and ongoing investment in offline baby stores in China will pressure the company's EBITDA margins over the next 12-18 months.The above factors, together with higher debt from the acquisition of Zesty Paws, will increase the company's financial leverage, as measured by adjusted debt/EBITDA, to around 4.6x-4.8x for 2021. This level of financial leverage is high for its Ba2 CFR.H&H's liquidity position is adequate. Its cash balance of around RMB2.45 billion as of 30 September 2021, combined with an expected annual operating cash flow of RMB1.2-1.3 billion, is sufficient to cover its short-term debt of RMB20 million, around RMB500 million of dividend payments and capital expenditure over the next 12 months.H&H's senior unsecured bond rating is one notch lower than its CFR, because the bond is subordinated to the senior secured loan facilities.In terms of environmental, social and governance (ESG) factors, H&H's ratings also consider the following.From a social perspective, H&H benefits from growing demand in IMF and VHMS in China, driven by changing lifestyles due to urbanization, rising disposal income and greater awareness of health and wellness issues partly because of the coronavirus outbreak.On the other hand, H&H faces regulatory and product safety risks because it derives its revenues mainly from IMF and VHMS segments, which are designed for human consumption. These risks are mitigated by the company's premium product positioning and focus on quality.In terms of governance considerations, H&H's ownership is concentrated in its board chairman Luo Fei as well as other principal shareholders, who held a 67.07% stake in the company. This risk is mitigated by the company's status as a listed entity. There are three independent non-executive directors on the company's eight-member board. The Zesty Paws acquisition shows management's willingness to use debt to fund its strong growth appetite, although H&H has also a track record of deleveraging following large debt-funded acquisitions.FACTORS THAT COULD LEAD TO AN UPGRADE OR DOWNGRADE OF THE RATINGThe negative outlook on the rating reflects Moody's expectation that H&H's credit metrics will remain elevated over the next 6-12 months, driven by significant acquisition-related debt increases and slower growth due to strong competition in the BNC segment in mainland China.A rating upgrade is unlikely given the negative outlook. However, the negative outlook could revert to stable if the company (1) demonstrates a clear plan to deleverage post the acquisition, (2) achieves strong sales growth in its PNC segment in China and the US; (3) maintains its solid liquidity position, with sustainable positive free cash flow, conservative dividend payouts and cash/short-term debt exceeding 1.5x-2.0x; and (4) deleverages, such that its debt/EBITDA trends towards 3.5x-4.0x on a sustained basis, while maintaining steady EBIT margins.Conversely, the ratings could be downgraded if H&H exhibits (1) weakening sales or market position; (2) deteriorating profit margins and sustained weak credit metrics or liquidity because of increased competition, regulatory changes and aggressive financial policies; or (3) failure to deleverage and/or execute on the growth strategy for its PNC segment.Credit metrics indicative of a downgrade include the company's adjusted EBIT margin falling below 15%, retained cash flow (RCF)/net debt decreasing below 15% on a sustained basis and its adjusted debt/EBITDA not likely trending towards 3.5x-4.0x over the next 12 to 18 months.The principal methodology used in this rating was Consumer Packaged Goods Methodology published in February 2020 and available at https://www.moodys.com/researchdocumentcontentpage.aspx?docid=PBC_1202237. Alternatively, please see the Rating Methodologies page on www.moodys.com for a copy of this methodology.Established in 1999, Health and Happiness (H&H) International Holdings Limited. is headquartered in Guangzhou and listed on the Hong Kong Stock Exchange in December 2010. The company is a leading domestic infant milk formula provider in China and leading Australian vitamin, herbal and mineral supplements (VHMS) provider.REGULATORY DISCLOSURESFor further specification of Moody's key rating assumptions and sensitivity analysis, see the sections Methodology Assumptions and Sensitivity to Assumptions in the disclosure form. 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