Rating Action Overview

• Nord Anglia Education (Bach Finance Ltd.)'s 2022 results showed an improved performance, with revenue above pre-pandemic levels and S&P Global Ratings-adjusted EBITDA margins at about 35%, thanks to its ability to increase school fees, despite being hampered by COVID-19-related mobility restrictions in China. Improved profitability metrics over the last two years have allowed the group to reduce its leverage metrics from 10.0x in fiscal 2021 to 9.0x in fiscal 2022 (excluding preference shares, from 8.4x in fiscal 2021 to 7.3x in 2022).
• Nord Anglia Education is seeking to refinance its existing capital structure, extending the upcoming 2024 and 2025 maturities by three years. However, we expect rising interest rates to affect the group's cash flow generation and interest coverage in the short to medium term.
• We think the group will continue to benefit from organic growth over the next 12-24 months, as it continues to increase school fees across all geographies by about 4%-5%, and improves utilization rates.
• Consequently, we raised our long-term issuer credit rating on Nord Anglia Education to 'B' from 'B-'.
• The stable outlook reflects our expectation that Nord Anglia Education will continue to expand its learning facilities' capacity and utilization rates at a sustainable pace, as well as passing on fee increases to offset the inflationary environment. We expect leverage metrics will remain below historic levels, with adjusted debt to EBITDA at about 9.0x (or about 7.0x, excluding debt-like noncommon equity instruments) over the next 12 months, supported by positive free operating cash flow (FOCF) after lease payments, albeit constrained by higher cash interest payments.

Rating Action Rationale

Nord Anglia reported good revenue and EBITDA growth in 2022, largely supported by an increase in revenue per student, while utilization rates remain below pre-pandemic levels. Nord Anglia reported revenue growth of 13% in fiscal year ending Aug. 31, 2022, up to $1.54 billion, with growth in all areas except the China International business, where COVID-19-related restrictions on mobility led to stable revenue. Capacity increased only marginally during the year by 4% up to a 93,610 average for the period (excluding the China Bilingual business), with strong growth in Americas and China International, as the group continued to invest in these regions. Nevertheless, utilization rates fell during 2022 by about 80 basis points (bps) to 69.9% in fiscal 2022, which still remains below the pre-pandemic level of 73.3% (excluding China Bilingual).

The removal of the COVID-19-related restrictions across the globe has led to an increase of ancillary businesses, including boarding schools.  This, together with the overall fee increase during the year, has led to a revenue per student growth of about 8%, supported by 11% growth in the Americas (where revenue per full-time equivalent [FTE] had been decreasing since 2018) and 14.6% growth in Europe. S&P Global Ratings-adjusted EBITDA stood at $536 million in 2022, leading to a decrease in EBITDA margin to 34.7% in fiscal 2022 from 36.5% in fiscal 2021 on the back of marginally increasing administrative costs following the reopening of schools. However, this remains significantly above pre-pandemic levels, with margins around 30%. We expect organic growth to be the main driver of Nord Anglia's performance over the next 12-24 months.

We anticipate that the group will continue to build organic capacity by investing in school extensions, leading to an average capacity growth of 4%-5% over the next two years.  In our view, Nord Anglia will focus on increasing the utilization of its existing schools across all geographies, and consolidate its China business following the regulatory changes of the past two years. However, we expect growth-capital investment to remain relatively modest, at about $30 million-$40 million per year, to respond to capacity-increase needs. While the group has made significant acquisitions in the past, leading to a total cash outflow of $262 million in 2022, we do not factor any transformational acquisitions into our base case. Instead, we would expect the group to make small bolt-on acquisitions as it benefits from the consolidation trends in a highly fragmented market.

We anticipate top-line growth and improved profitability metrics over the next 12-24 months, though we expect a small drop in EBITDA margin in 2023 before recovering in 2024. We think the group is well positioned to continue growing its top line, based on its ability to increase fees, its investment in organic growth, and the available capacity within the existing current school base. We expect revenue to increase by 8%-10% over the next two years, mostly driven by increasing utilization toward 72%-74% and rising fees across all geographies--though a weak euro versus dollar could hinder Europe's reported performance. However, in our view, there will be some inflationary pressures on wages and other operating expenses, such as energy costs, during fiscal 2023, which--while largely offset by the fee increases--will lead to a small drop in EBITDA margin of about 100 bps-150 bps from 34.7% in fiscal 2022. However, we expect a rapid recovery in EBITDA margins in 2024, rising above 35%.

The nature of the business means the group is continually exposed to regulatory risk, yet this is mitigated by increasing geographical diversity. The education sector is intrinsically exposed to changes in regulation, and Nord Anglia has been highly affected by the Chinese government's decision to ban direct foreign ownership of private schools that impart mandatory education for Chinese nationals. As a result, the group no longer controls its China Bilingual segment (for which it now receives only service fees). Mobility and travel restrictions in China have also affected the group's ability to increase utilization rates, and we expect this will continue over the coming 12-24 months, as fewer foreign nationals settle in the country. We recognize the group's efforts to diversify its student base and increase the proportion of local students, reducing the reliance on foreign nationals and international mobility. At present, we do not factor any significant change in the regulatory environment of any of the group's key geographies (including China); however, we do not discard the possibility that regulatory changes could affect the group's performance in the medium term. However, this risk is mitigated by the increasing geographical diversification of the group's school base (now present in 32 countries).

The proposed refinancing transaction allows Nord Anglia to extend its maturity profile, avoiding refinancing risk and enhancing liquidity. The current capital structure comprises $1.8 billion of first-lien debt maturing September 2024 ($1.5 billion euro-equivalent and $300 million in U.S. dollars), $409 million second-lien debt maturing September 2025, and a $400 million revolving credit facility (RCF) maturing August 2024 (currently undrawn). Nord Anglia is seeking to extend its 2024 and 2025 maturities by three years up to 2027 and 2028, respectively. The resulting capital structure is expected to be $1.9 billion equivalent of first-lien debt maturing January 2028, $409 million second-lien debt maturity September 2028, and a $545 million RCF, reducing to $525 million in 2024, maturing August 2027 (expected to remain undrawn at closing and to be used for the group's working capital needs). A successful extension of the maturity date will reduce the refinancing risk in a volatile market and, together with the upsizing of the RCF, improves the group's liquidity profile, which we continue to view as adequate.

The group's leverage continues to be elevated given its large debt burden. We anticipate that the proposed capital structure will be neutral to the group's leverage, which continues to be elevated. Nord Anglia will have more than $2.3 billion of financial debt, comprising $1.9 billion of first-lien debt, $409 million of second-lien debt, and a $545 million RCF (expected to be undrawn at closing). The group also has $1.6 billion of reported leases and $1.1 billion of accruing preference shares as of Aug. 31, 2022. We expect leverage to remain high, despite its expected improvement, above 6.0x–7.0x (excluding preference shares) for the next two years. The group's limited cash generation in relation to its balance sheet is reflected in a weak FOCF after leases to debt (excluding preference shares), below 1% in 2023 and only marginally increasing toward 2%-3% in 2024.

We anticipate that the increasing interest rate environment will weigh on Nord Anglia's cash flow generation. The current macroeconomic conditions have led to increasing base rates following central banks' actions, and to increasing margins for refinancing existing debt. We expect this will have a significant impact on Nord Anglia's cash interest expense, which we expect to increase by about 50% up to approximately $300 million (including lease interest expense), from about $200 million. As a result, we expect FOCF after leases to drop below $50 million in 2023 but remain positive, returning to growth in 2024 as profitability improves.

Borrowing in euros exposes the company to foreign exchange risk in the absence of a hedging policy. Under the proposed capital structure, the group is expected to borrow approximately $1.9 billion equivalent first-lien debt, split between euros and dollars, with approximately $1.4 billion equivalent in euros. We expect interest payments for the euro tranche to be above $100 million (euro equivalent). However, the group generates less than 5% of its EBITDA (that is, less than $30 million) in that currency, which could leave it exposed to foreign exchange risk in the absence of a hedging strategy. Nevertheless, the risk is significantly mitigated, and we therefore continue to assess the capital structure as neutral. The group and its sponsors proactively manage its foreign exchange exposure and have in the past swapped its operational currencies into euros when required. Nord Anglia has significant amounts of cash in several currencies and full availability under the RCF, which it can draw in euros to cover interest payments if needed.

Outlook

The stable outlook reflects our expectation that Nord Anglia will continue to expand its learning facilities' capacity and utilization rates at a sustainable pace as well as passing on fee increases to offset the inflationary environment. We expect leverage metrics will remain below historic levels with S&P Global-adjusted debt to EBITDA at about 9.0x (or about 7.0x excluding debt-like noncommon equity instruments) over the next 12 months, supported by positive FOCF after lease payments, though constrained by higher cash interest payments. The outlook also reflects our view that the group and its financial sponsors will continue to show a prudent financial policy with no transformative mergers and acquisitions (M&A) activity that could jeopardize its credit metrics. The stable outlook also assumes that there would not be any major adverse changes in regulations in the key geographies where the group operates (including China), and that the group will effectively manage its large unhedged foreign exchange exposure.

Downside scenario

We could take a negative rating action on Nord Anglia if the group were to materially underperform our base-case expectations, leading to an adjusted debt to EBITDA above 7.5x (excluding preference shares) or any material deterioration of its FOCF after lease payments.

We could also lower our rating if the financial sponsors were to pursue a more aggressive financial policy than expected, or undertake significant M&A activity that could negatively affect the credit metrics.

Upside scenario

Although unlikely at this stage given its financial leverage, we could raise our ratings on Nord Anglia if its performance materially exceeded our base case, especially if the group were able to reduce adjusted debt to EBITDA to below 5.0x, excluding shareholder instruments, and if we saw a sustainable improvement in cash flow generation leading to FOCF after leases to debt (excluding preference shares) above 5%.

An upgrade would require a financial policy supportive of these ratios as well as increasing certainty around regulation in China (including Hong Kong), and the implementation of a strong foreign exchange hedging policy.

Company Description

Nord Anglia is a global provider of primary and secondary education. It runs 81 international schools across Europe, the Middle East, China, central and southeast Asia, and the Americas. The group provides education services from kindergarten through to the end of secondary school. As of Aug. 31, 2022, the group had more than 69,000 full-time students and total capacity of 112,000 seats (including the deconsolidated China Bilingual segment).

Founded in the U.K. in 1972, Nord Anglia was acquired in September 2017 by CPP Investments and funds advised by Hong Kong-based private equity firm Baring Private Equity Asia Ltd. (BPEA, now part of EQT). The acquisition valued Nord Anglia's enterprise value at about $4.3 billion. BPEA EQT retains a majority representation on the group's board of directors.

Our Base-Case Scenario

Assumptions

• We do not expect the current macroeconomic conditions to have a significant effect on the group's ability to continue to operate normally and benefit from the recovery of international mobility and the gradual lift of the pandemic-related restrictions in China.
• Group revenue to grow by 8%-10% in fiscals 2023 and 2024 supported by increasing capacity (excluding China Bilingual) from 93,610 by about 4% in 2023, and a further 4%-5% in 2024. We forecast utilization to increase toward 73% during 2023, and toward 73%-75% in the subsequent years, thanks to normalization of the international mobility and a higher proportion of local students, which have proven stickier and more predictable in terms of retention. We understand that there is further potential for growth in case of M&A activities that have not been included in our base case, which considers mainly organic growth and extensions within the existing school portfolio.
• We expect the group to be able to pass on fee increases to cover the inflationary pressures and we assume a compound annual growth rate (CAGR) increase in revenue per student of about 1.5%-2% between 2022 and 2025, driven by an increase in fees across all regions but affected by foreign exchange movements.
• Adjusted EBITDA margins to fall toward 33%-34% in 2023, from 34.7% in 2022 and 36.5% in 2021, before recovering in 2024. We expect the group to benefit from the cost-saving initiatives implemented during the pandemic and partially absorb the increase in staff and other costs, such as utilities or rent.
• Capital expenditure (capex) of about $100 million-$120 million in 2023, up from $80 million in 2022, as the group continues to invest in its current state after reduced investment during the pandemic. We expect capex to marginally increase to about $120 million-$140 million in 2024 and beyond.
• We forecast that the group will continue to benefit from its working capital cycle and collection of fees in advance, and generate about $40 million-$50 million per year on net working capital inflows.
• We anticipate cash interest expense to significantly increase over the coming years by about $100 million to about $300 million (including interest on lease) given the floating rate structure of the proposed new instruments as well as anticipated increasing margins compared with the current capital structure. We expect this to have a significant impact on the group's cash flow and interest coverage.
• We forecast Nord Anglia's total leases to grow broadly in line with its investment in school openings and expanding the capacity of existing facilities.
• Our forecast does not include any M&A activity. Nord Anglia's financial sponsors, CPP Investments and BPEA EQT, have historically partially funded its M&A and operational initiatives through equity injections, and we expect any M&A activity to be funded through equity or internal cash flow instead of additional debt.
• We do not assume any dividend distribution to the shareholders.

Key metrics

Liquidity

Our assessment of Nord Anglia's adequate liquidity position reflects the group's healthy cash balances, ongoing free cash flow generation, and full availability under the proposed $545 million RCF (down to $525 million in 2024). We expect sources of liquidity to comfortably cover the group's uses by over 2.5x over the next 12 months. However, given the elevated leverage levels, we consider that the group would be unable to withstand low-probability, high-impact events without the need to refinance the existing debt.

Principal liquidity sources (for the 12 months from Aug. 31, 2022):

• Cash and cash equivalents on balance sheet of about $484 million. Although some of this balance is held in jurisdictions with potential cash repatriation restrictions, we think the group will be able to use these funds to finance local operations, greenfield investments, and acquisitions;
• Full availability under the $545 million RCF;
• Cash funds from operations (FFO) of about $110 million-$130 million; and
• Working capital inflows of about $35 million-$45 million.

Principal liquidity uses for the same period include:

• Intra-year seasonal working capital requirements of about $300 million; and
• Capex of $100 million-$120 million, comprising maintenance projects of $70 million-$80 million and about $30 million-$40 million of growth capex.

Covenants

Nord Anglia has a springing first-lien net leverage covenant at 8.5x (up from 7.0x following this transaction), tested when RCF drawings are above 40% of total RCF commitments.

Nord Anglia tends to draw on its RCF facility to manage intra-year working capital requirements. That said, we expect the group to hold solid cash balances in the foreseeable future. As a result, we expect Nord Anglia to maintain sound headroom under the springing covenant of more than 30%.

Environmental, Social, And Governance

ESG credit indicators: E-2, S-2, G-3

Governance factors are a moderately negative consideration in our credit rating analysis of Nord Anglia, as it is for most rated entities owned by private-equity sponsors. We believe the group's highly leveraged financial risk profile points to corporate decision-making that prioritizes the interests of the controlling owners. This also reflects generally finite holding periods and a focus on maximizing shareholder returns.

Social factors continue to be overall a neutral consideration in our credit analysis. Travel restrictions and subsequent lockdowns for health and safety reasons impacted the company's performance during the pandemic, with revenue growth lagging behind capacity increase. We note, however, that the lifting of COVID-19 restrictions has supported the improvement in operating performance, as have other actions taken by the group.

Issue Ratings - Recovery Analysis

Key analytical factors

The issue rating on the group's first-lien debt is 'B', with a recovery rating of '3', reflecting our expectation of meaningful recovery (50%-70%; rounded estimate: 65%) in a hypothetical default scenario.

Local regulations prevent some of Nord Anglia's subsidiaries from providing upstream guarantees. This could lower the potential recovery in the event of liquidation in a hypothetical bankruptcy scenario. However, our bankruptcy scenario assumes that the group will be restructured as a going concern.

Our valuation of the group as a going concern reflects its leading brand and position in the premium international school market, established network of teachers and administrators across multiple jurisdictions, and its large, stable student base.

Our default scenario envisions a decline in tuition and student enrolment in key markets due to rising competitive pressures and a global macroeconomic downturn. A rapid deterioration in earnings could also be caused by an escalation in global geopolitical conflicts, causing Nord Anglia's foreign national student base to move to another country.

We assume the RCF will be 85% drawn at the time of default.

The proposed capital structure is as follows:

• $29 million of local debt and overdrafts (as per the last annual report);
• $545 million (down to $525 million in 2024) equivalent RCF;
• $1.9 billion equivalent euro- and U.S. dollar-denominated first-lien term loans;
• $409 million of second-lien term loans; and
• $1.01 billion of subordinated preference shares.

Simulated default assumptions

• Jurisdiction: U.K.
• Simulated year of default: 2025

Simplified waterfall

• EBITDA at emergence: $263 million
• Implied enterprise value-to-EBITDA multiple: 6.5x (in line with our standard sector assumptions for education providers)
• Gross enterprise value at default: $1.7 billion
• Net value available to creditors net of administrative expenses (5%): $1.6 billion
• Estimated first-lien debt claims: $2.45 billion*
• Recovery rating: 3 (recovery expectation: 50%-70%; rounded estimate: 65%)

*All debt amounts include six months of prepetition interest.

Environmental, social, and governance (ESG) credit factors for this change in credit rating/outlook and/or CreditWatch status:  

• Health and safety

Ratings Score Snapshot

Related Criteria

• General Criteria: Environmental, Social, And Governance Principles In Credit Ratings, Oct. 10, 2021
• General Criteria: Group Rating Methodology, July 1, 2019
• Criteria | Corporates | General: Corporate Methodology: Ratios And Adjustments, April 1, 2019
• Criteria | Corporates | General: Recovery Rating Criteria For Speculative-Grade Corporate Issuers, Dec. 7, 2016
• Criteria | Corporates | Recovery: Methodology: Jurisdiction Ranking Assessments, Jan. 20, 2016
• Criteria | Corporates | General: Methodology And Assumptions: Liquidity Descriptors For Global Corporate Issuers, Dec. 16, 2014
• Criteria | Corporates | General: The Treatment Of Non-Common Equity Financing In Nonfinancial Corporate Entities, April 29, 2014
• Criteria | Corporates | General: Corporate Methodology, Nov. 19, 2013
• General Criteria: Methodology: Industry Risk, Nov. 19, 2013
• General Criteria: Country Risk Assessment Methodology And Assumptions, Nov. 19, 2013
• General Criteria: Methodology: Management And Governance Credit Factors For Corporate Entities, Nov. 13, 2012
• General Criteria: Principles Of Credit Ratings, Feb. 16, 2011

Related Research

• Bach Finance Ltd. (Nord Anglia Education), March 31, 2022

Ratings List