(The following statement was released by the rating agency)
Oct. 2 - Overview
-- U.S. health care-related educational services provider Ascend Learning's profitability has been weak, and we expect EBITDA margins will remain under pressure.
-- We are lowering our corporate credit rating on the company to 'B-' from 'B'.
-- The negative rating outlook reflects the potential for a further downgrade if the margin of compliance with financial covenants continues to deteriorate.
Rating Action On Oct. 2, 2012, Standard & Poor's Ratings Services lowered its corporate credit rating on Burlington, Ma.-based Ascend Learning LLC to 'B-' from 'B'. The downgrade reflects weaker-than-expected operating performance and conveys our expectation that the company margin of compliance with financial covenants will remain thin, compounded by step-downs in the net leverage covenant in the next three quarters.
At the same time, we are lowering our issue-level ratings on all existing debt by one notch, in conjunction with our change to the corporate credit rating. The recovery ratings on this debt remain unchanged.
The rating outlook is negative.
Standard & Poor's ratings on Ascend Learning reflect our expectation that the potential for a resumption of modest EBITDA growth, supported by solid end-market demand, will not be sufficient to alleviate high leverage. The company has incurred significant increases in its fixed expenses, in part to integrate acquisitions, as well as higher product development spending. We consider the company's business risk profile as "weak" (based on our criteria), reflecting its lack of critical mass, niche focus, acquisition strategy that has had some shortcomings in integration, and concentration in health care and related fields, which are highly fragmented and competitive. Operating synergies have been difficult to achieve because of inherent difficulties in managing performance across a growing and disparate business portfolio. Ascend Learning has a "highly leveraged" financial risk profile, in our view, because of its debt financing of high-priced acquisitions, our expectation of ongoing debt-funded acquisitions, high debt to EBITDA, and a history of special dividends.
Ascend Learning is a provider of educational products with a focus on health care-related disciplines and professional training and testing. The company has a limited scale of operations, has a small size, and faces competitive threats. We expect the company's revenues to maintain healthy growth supported by solid end-market demand in the company's largest market niches, test preparation materials for the nursing school licensing exam, and to a lesser extent specialized higher education vocational publishing. We expect that the demand for nursing school test preparation materials, which accounts for about one-third of revenues, to remain relatively stable because of consistent nursing school enrollment. Still, some of the company's peers, like Reed Elsevier and the Washington Post, are better capitalized and, like Ascend, offer test preparation divisions for the nursing licensing exam. We are concerned that the business may become price competitive as these players attempt to gain market share.
Under our base-case scenario for the second half of 2012 and 2013, we expect revenue growth at a low-double-digit percentage rate and a reversal of EBITDA declines in the first half of 2012, as integration-related investments subside. We expect EBITDA growth at a mid-teen percentage rate as a result of growing demand for the company's products and services because of increasing employment in health care-related fields, and the initial leveraging of the company's investment in sales and marketing and infrastructure investment. Our base case could be undermined if the growth of the textbook rental market hurts the company's higher education publishing division. Also, Ascend Learning's competitors may invest additional resources to compete more effectively against it, given decent growth prospects and its high penetration rate among nursing schools.
Revenue increased 23% in the three months ended June 30, 2012, but EBITDA fell 21% as a result of increased investment in technology infrastructure and sales and marketing staff. Lease-adjusted debt leverage increased to over 9x for the 12 months ended June 30, 2012, versus 7.5x for the same period last year, as a result of financed acquisitions. Leverage is consistent with the 5x-or-higher threshold that we associate with a highly leveraged financial risk profile. Our full-year base case suggests lease-adjusted gross debt leverage will be in the high-7x area in 2012. We expect debt leverage to decline to the low-7x area in 2013, based on our outlook for continued organic revenue growth, a plateau in technology, sales, marketing expenses, and the contribution from recent acquisitions. Notwithstanding the potential for a decline in lease-adjusted leverage, we expect the net leverage covenant to remain tight, and less than 10% margin of compliance. Lease-adjusted EBITDA coverage of interest expense declined to 1.2x for the 12 months ended June 30, 2012, versus 1.7x for the same period last year. Our base-case scenario indicates that interest coverage will increase to the low- to mid-1x area in 2012 and roughly 1.5x in 2013.
Discretionary cash flow was slightly negative in the 12 months ended June 30, 2012, as a result of higher interest expense and increased product development spending. Negative discretionary cash flow amounted to about 8% of EBITDA, compared with roughly one-third in the prior 12 months. We expect minimal discretionary cash flow for the full-year 2012, and low single-digit percentage conversion for 2013 from revenue momentum.
Ascend Learning has "less than adequate" sources of liquidity to cover its needs over the next 12 to 18 months. Our assessment of Ascend's liquidity profile incorporates the following expectations and assumptions:
-- We expect sources of liquidity over the next 12 to 18 months to exceed uses by over 1.2x.
-- Because of the company's high debt burden and negative discretionary cash flow, we do not believe it can absorb high-impact, low-probability shocks.
-- Compliance with maintenance covenants would not survive a greater than 15% drop in EBITDA given the step-downs over the next three quarters.
Liquidity sources include cash balances of $5 million as of Aug. 31, 2012, and availability of $23 million on the $40 million revolving credit facility due 2015, subject to covenant constraints. Pro forma debt maturities consist of nominal annual amortization of $3.3 million on the term loan B.
The net debt leverage covenant was 5.27x as of June 30, 2012, providing a 4% EBITDA margin of compliance with the 5.5x covenant. The covenant steps down to 5.25x on Sept. 30, 2012, 5x on Dec. 31, 2012, 4.25x on March 31, 2013, and finally to 3.5x on March 31, 2014. We estimate the margin of compliance will be thin with the step-downs, despite our expectation that the company will grow EBITDA at a mid-teen percentage range over the next year.
Recovery analysis For the complete recovery analysis, please see the recovery report on Ascend Learning, to be published shortly after this release on RatingsDirect.
The negative outlook reflects the company's need to grow EBITDA at a mid- to high-teen percent rate over the next two to three years to maintain an adequate margin of compliance with the net debt leverage covenant as a result of the aggressive step-down schedule. We could lower the rating if the company's EBITDA growth does not meet our base case expectations, which would result in a thin margin of covenant compliance. Specifically, this could occur if competition or delays in effectively integrating acquisitions result in a only a single-digit EBITDA increase over the next 12 months.
We regard a revision of the outlook to stable as a less likely scenario, involving consistent improvement in overall profitability, sustainable positive discretionary cash flow, and financial policies that support progress in reducing leverage and restoring a healthy margin of compliance with financial covenants.
Related Criteria And Research
-- Methodology: Business Risk/Financial Risk Matrix Expanded, Sept. 18, 2012
-- Liquidity Descriptors For Global Corporate Issuers, Sept. 28, 2011 -- Use Of CreditWatch And Outlooks, Sept. 14, 2009 -- Criteria Guidelines For Recovery Ratings, Aug. 10, 2009
-- Standard & Poor's Revises Its Approach To Rating Speculative-Grade Credits, May 13, 2008
-- 2008 Corporate Criteria: Analytical Methodology, April 15, 2008 -- 2008 Corporate Criteria: Rating Each Issue, April 15, 2008 -- 2008 Corporate Criteria: Ratios And Adjustments, April 15, 2008 Ratings List Downgraded To From Ascend Learning LLC Corporate Credit Rating B-/Negative/-- B/Negative/-- Senior Secured First-Lien B- B Recovery Rating 3 Senior Secured Second-Lien CCC CCC+ Recovery Rating 6
Complete ratings information is available to subscribers of RatingsDirect on the Global Credit Portal at . All ratings affected by this rating action can be found on Standard & Poor's public Web site at . Use the Ratings search box located in the left column.
Primary Credit Analyst: Hal F Diamond, New York (1) 212-438-7829;
Secondary Contact: Chris E Valentine, New York (1) 212-438-1434;
email@example.com (Reporting By Hilary Russ)