S&P Global Rating lowered its debt ratings 361 Degrees International Ltd. as it expects the Chinese sporting good company’s market position to weaken amid accelerated industry consolidation, with a dip in revenue in 2020 and 2021. Escalated competition in China’s sportswear industry is also expected to dent the company’s profit margin.

In a statement, S&P said that despite a large cash balance, 361 Degrees faces significant refinancing risk, with US$400 million notes maturing in June 2021 (US$294 million outstanding as of August 31, 2020).

The ratings agency lowered its issuer credit rating on 361 Degrees to ‘B-‘ from ‘B+’. At the same time, it lowered its long-term issue rating on the China-based sportswear company’s senior unsecured notes to ‘B-‘ from ‘B+’.

The negative outlook on 361 Degrees reflects the refinancing risk over the next 12 months due to uncertainties in cash remittance and difficult refinancing conditions for private companies in China. The outlook also reflects its negative view of the company’s weak cash flow generation.

S&P said in its analysis, “We believe the company will continue to lose market share to industry leaders owing to its low product differentiation, smaller scale, and weaker cash generation.

“361 Degree generates much more sales than peers’ from lower-tier cities, where consumers’ discretionary spending is hit by COVID-19. Its sales recovery will therefore be slower than the industry. As a result, we now forecast a 5 percent to 10 percent decline in 361 Degrees’ revenue for 2020 and a 0 percent to 5 percent decline in 2021. The company’s recent product innovation, upgraded brand image, and e-commerce development will likely modestly support revenues.

“In our view, 361 Degrees has done a good job of controlling costs by reducing marketing spending and staff costs. We have therefore revised our EBITDA margin forecast to 10 percent to 12 percent for 2020 and 2021, compared with our earlier estimate of 9 percent to 11 percent. The company’s EBITDA margin was 13.8 percent in 2019. We now forecast 361 Degrees’ debt-to-EBITDA ratio will be 4.0x-4.5x in 2020 and 2021, as against 3.3x in 2019.

“We see execution risks in 361 Degrees’ refinancing plan for its US$400 million notes due in June 2021. The company’s cash balance of the Chinese renminbi (RMB) 6.3 billion as of June 30, 2020, is sufficient to cover the maturity. However, the remittance of money offshore is subject to restrictions and we see risks in cross-border cash transfers taking place in a timely manner and in sufficient amounts. The majority of 361 Degrees’ cash is located onshore. The company is going through the regulatory approval process to remit cash overseas.

“At the same time, we expect 361 Degrees to continue to repurchase its U.S. dollar debt in the open market. Aside from the US$400 million notes, the company has no other bullet debt outstanding.

“361 Degrees’ cash flows will be lower because the company would need to support suppliers and distributors. We expect the company to have weaker cash flows in 2020, mainly due to increased working capital use. 361 Degrees has been extending its payment terms to suppliers and distributors and offering wholesale discounts to distributors.

“We forecast the company’s account receivables days will increase to 160-165 days in 2020 from 142 days in 2019; account payable days will also likely shorten to 145-to-150 days from 176 days a year ago. As a result, we expect 361 Degrees’ operating cash flow to drop to RMB0 million to RMB50 million in 2020, from RMB517 million in 2019.

“We anticipate 361 Degrees’ capital expenditure will remain largely unchanged, mainly for store maintenance. A lower dividend payout is also likely; the company stopped interim dividends for 2020, resulting in about zero free operating cash flow during the year.”