(The following statement was released by the rating agency)
Oct 10 - Fitch Ratings has affirmed Spectrum Brands Inc.'s
(Spectrum) ratings following yesterday's announcement that the company willacquire Stanley Black & Decker's Hardware & Home Improvement Group (HHI) for$1.4 billion in cash. The acquisition is expected to be debt financed andfinalized by the end of the company's second quarter subject to customaryclosing conditions.
Fitch affirms Spectrum's rating as follows:
--Long-term Issuer Default Ratings (IDR) 'BB-':
--$300 million senior secured revolving credit agreement 'BB-';--$370 million senior secured term loan 'BB-';--$950 million 9.5% senior secured notes 'BB-';--$300 million 6.75% senior unsecured notes at 'BB-'.The Rating Outlook is Stable.Rating Rationale:
This is clearly a leveraging transaction with opening day debt/adjusted EBIDTAincreasing to 4.6x from an estimated 3.4x at the fiscal year ended Sept. 30,2012. Nonetheless, the affirmation is supported by Spectrum's solid track recordof improving margins, low single digit organic growth rates since 2009, amplelevels of free cash flow and higher margins and additional FCF to be garneredfrom HHI.
The acquisition is accretive and fits from a financial perspective, particularlyas HHI is reported to have strong and stable FCF. The acquisition also allowsthe company to further diversify its customer base. In purchasing HHI, Spectrumadds an established entity with higher EBITDA margins and less seasonal FCF.There are minimal integration risk and synergy expectations. Both companies havethe same marketing strategy based on value with similar performance to premiumpriced products.
The Outlook is Stable based on Fitch's expectation of improving FCF andmanagement's ability to de-lever to well below 4.0x within an 18-24 month periodafter closing. However, there is no room in Spectrum's rating for any leveragingtransaction. Adding leverage in a slowing global economy could pose some riskdespite our expectation of marked improvements in FCF. Fitch anticipates thatFCF will decline moderately in 2013 given acquisition related fees and modestintegration spending. However FCF should increase markedly in 2014 to more thanthe $150 million expected in 2012. Spectrum generates the bulk of its FCF in thefourth quarter, and much of that has been used to voluntarily reduce debt. Fitchexpects this to continue. Leverage is also likely to trend higher at the end of2013 without a full year of HHI's performance but then improve markedly in 2014.
Spectrum is a controlled company with limited independent directors and has a57.5% majority owner in Harbinger Group, Inc. (NYSE: HRG; rated 'B', OutlookStable). HRG is a publicly listed entity controlled by funds managed by oraffiliated with Harbinger Capital Partners LLC (collectively 'HarbingerCapital'), a hedge fund. Harbinger Capital owns approximately 93% of HRG. HRG isa holding company primarily focused on obtaining longer-term, controlling equitystakes in other companies.
HRG uses the value of its portfolio investments as collateral for its own debt.HRG has pledged its Spectrum shares as part of the collateral for its 10.625%,$500 million notes. The collateral is valued at approximately $1.2 billion. Debtincurrence and maintenance covenants in both Spectrum's and HRG's debtfacilities helps to support credit protection measures. Additionally, HRG has tomaintain certain collateral coverage levels. HRG has a comfortable collateralcushion. Fitch monitors HRG's covenant cushion and compliance as part ofSpectrum's rating.
Harbinger Capital Partners Master Fund I, Ltd., (an affiliate of HarbingerCapital) owns 50.9% of HRG on a fully diluted basis and has also pledged all ofits shares in HRG together with securities of other issuers. If there was aforeclosure or sale of the HRG shares pledged as collateral, it would be achange of control of HRG and Spectrum, respectively. The change would not onlyaccelerate all of Spectrum's and HRG's debt and preferred stock, but would causeSpectrum to be unable to use its net operating losses, which could negativelyaffect cash flows. Spectrum would need a waiver on its term loan and revolver,and might also need a waiver on its notes, as it is required to offer torepurchase those instruments.
Financial Performance and Liquidity:
For the first nine months ended July 1, 2011, Spectrum's revenues increasedalmost 2.6% due primarily to increased volumes of 3%, acquisitions of 1.5% andpartially offset by (1.9%) of negative foreign exchange translation. The EBITDAmargin of 14.7x at the LTM continues to increase with slow but steady salesgrowth and cost containment efforts. Leverage was 3.8X but is expected to be3.4x at year end with $150 million of prepayments made in the fourth quarter.
FCF continues its typical path of being negative in the first quarter butimproving sequentially each quarter and was $120 million at the LTM. Spectrum'sfourth quarter 2012 FCF is estimated to be at least $253 million, a 12% increasefrom fourth-quarter 2011. Fitch estimates Spectrum's 2012's FCF to be at least$150 million, which would be the third year in a row of positive free cash flow.If the special one-time dividend last month was excluded, FCF would haveimproved sequentially in each of the past three years.
Spectrum's liquidity is good. It had $195 million in borrowing availability atthe end of June 2012 under its secured revolving credit agreement and $62million in cash. Current debt maturities are very modest through 2015 with lessthan $15 million due in each of the next three years.
Rating Action Triggers:
Negative: Any change in management's strategy to de-lever to the 2.5x to 3.5xlevel within 24 months after the acquisition closes would have negative ratingimplications. A new and sizeable leveraging transaction that would keep leverageabove the mid 4x range could also have negative rating implications.
Governance Implications Potentially Negative: A change of control due to issueswith the majority owner could have negative rating implications. An event ofdefault could occur if HRG and affiliates own less than 35% of Spectrum. Ifthere is a change of control, it would most likely be due to foreclosure on theassets (Spectrum shares) backing financings at the parent level. In this event,all of Spectrum's debt could accelerate unless the company obtains waivers. Anyevent related to a potential change of control at the Harbinger Capital levelwill be assessed upon occurrence.
Positive: Unlikely in the near term given the acquisition announcement and theexpected increase in leverage.
(Caryn Trokie, New York Ratings Unit)