TEXT-S&P cuts Harsco Corp ratings to 'BBB/A-3'

Thu Mar 29, 2012 2:51pm EDT

March 29 - Overview	
     -- U.S.-based Harsco Corp. faces continued pressures in restoring its 	
profitability and cash flows, and we believe its credit measures are unlikely 	
to recover adequately in the next two years.	
     -- We are lowering our long-term and short-term ratings on the company by 	
one notch, to 'BBB' and 'A-3' respectively.	
     -- The negative outlook reflects the possibility of a further downgrade 	
if the company's ongoing restructuring initiatives do not yield expected 	
margin improvements and if cash flow protection metrics do not improve over 	
the next 18 months.	
	
Rating Action	
On March 29, 2012, Standard & Poor's Ratings Services lowered its long-term 	
ratings on Harsco Corp., including the corporate credit rating, by one
notch to 'BBB' from 'BBB+'. The outlook is negative. At the same time we lowered
the short-term and commercial paper ratings to 'A-3' from 'A-2'. We removed all 	
ratings from CreditWatch, where we had placed them with negative implications 	
on Jan. 13, 2012. 	
	
Rationale	
The downgrade and negative outlook reflect Harsco Corp.'s delayed progress in 	
restoring its historical profitability, its weakened cash flow protection 	
measures, and our expectation that the company is unlikely to restore ratios 	
adequate for the previous rating over the next two years. While we do expect 	
some profitability improvement this year and higher cash flows in 2013, to 	
achieve this the company will need to execute on its ongoing restructuring 	
plans. 	
	
We continue to view the company's business risk profile as "satisfactory" and 	
its financial profile as "intermediate." We expect the company will continue 	
to benefit from its well-established positions in its key markets and its good 	
geographic diversity. However, high fragmentation, competitive pricing 	
conditions, and high fixed-capital requirements to support growth offset these 	
positives. 	
	
The rating incorporates our expectation that revenues could experience a 	
mid-single-digit decline in 2012 as certain of Harsco's key markets, such as 	
construction in Europe and global steel production, remain soft and the 	
company exits certain underperforming contracts. Restructuring actions should 	
buffer the impact on profitability from lower volumes, but these are subject 	
to some execution risk in our view. We believe that free cash flow could 	
remain negligible or be slightly negative in 2012 because of cash 	
restructuring costs, but that it could approach $100 million in 2013. Recent 	
management changes could alter the company's future capital spending strategy, 	
but capital requirements to support growth will likely remain significant.	
	
Harsco serves a diversified industrial base. Its infrastructure segment 	
provides construction scaffolding and forming equipment and services, the 	
metals and minerals segment provides metal reclamation and specialized steel 	
mill services, the rail segment provides railway maintenance-of-way equipment 	
and services, and the industrial segment manufactures a variety of products 	
including those for heat transfer-related applications. Services and equipment 	
manufacturing represent about 80% and 20% of revenues, respectively.	
	
Nonresidential construction activity, global steel and industrial production, 	
and rail infrastructure maintenance spending all influence demand. Harsco is 	
one of the largest players in its markets and benefits from its strong 	
engineering capabilities and a global footprint. However, these markets are 	
cyclical, and competition is highly fragmented globally (particularly in 	
commercial construction). These factors add risks to its infrastructure and 	
metals and minerals segments, which operate with high fixed costs, leading to 	
fairly high operating leverage. Strong price competition, especially in 	
construction markets, when market conditions are weak add to profit 	
volatility. Such instances can offset the company's emphasis on higher-margin 	
industrial services in its infrastructure segment. The company gains some 	
stability from the long-term contracts that provide a majority of revenues in 	
the metals and minerals segment, its relatively flexible capital spending 	
during a downcycle, and its higher-margin and more-stable rail and industrial 	
businesses.	
	
Although global steel and industrial markets have recovered, business 	
conditions in the company's late-cycle infrastructure segment (exposed to 	
nonresidential construction) remain difficult. Low utilization and rental 	
rates, especially in Europe, continue to cause operating losses. Ongoing 	
restructuring initiatives have yet to restore the profitability of the 	
infrastructure segment. Opportunities from new contracts and partnerships in 	
the metal and minerals segment could help accelerate growth, but profitability 	
remains correlated with global steel production volumes. And we believe 	
Harsco's continued use of capital to support long-term contracts in the metal 	
business could limit free cash flow generation for the next few years.	
	
Our assessment of the company's intermediate financial risk profile reflects 	
management's financial policy of maintaining moderate debt leverage. This is 	
offset by the decline in cash flow protection metrics caused by weakened 	
operating performance as well as higher pension liabilities. At the end of 	
2011, funds from operations (FFO) to total debt was just greater than 30%, and 	
we expect some weakening in 2012 before a recovery toward 35% in 2013. 	
Achieving these measures would be consistent with our expectations for the 	
'BBB' rating, provided that the company also strengthens its free cash flow 	
generation, such that FOCF to total debt recovers towards 10%. 	
	
Liquidity	
Our short-term rating on Harsco is 'A-3', and we assess the company's 	
liquidity as "adequate." We believe that the company's sources of liquidity 	
will exceed its uses by 1.2x or more over the next 12 to 18 months and that 	
the company will have adequate sources of liquidity to cover its needs in the 	
near term, even in the event EBITDA declines more than 15%. 	
	
Liquidity sources include our expectation for about $300 million of operating 	
cash flow in 2012 after cash restructuring expenses. The company also had 	
about $120 million of cash on hand as of Dec. 31, 2011, and ample availability 	
under a $525 million credit facility that expires in 2017. The revolver 	
provides backup liquidity to Harsco's commercial paper (CP) program. Financial 	
covenants (including a maximum debt to capital ratio of 60% and minimum 	
interest coverage ratio of 3x) govern availability under the facilities. The 	
company has adequate headroom over these requirements, and we expect this will 	
continue. 	
	
Liquidity uses includes our expectation of about $300 million in capital 	
expenditures in 2012 and an annual dividend payout of about $70 million. 	
Short-term CP borrowings amounted to about $40 million at the end of fiscal 	
2011. Other debt maturities include $150 million of notes due in September 	
2013 and $250 million due in October 2015.	
	
Outlook	
The outlook is negative. We could lower the rating if profitability does not 	
improve this year or if heavy capital spending with limited or uncertain top 	
and bottom line benefits continues to depress free cash flow generation. In 	
particular, credit protection measures would likely remain subpar for the 	
rating if the company fails achieve break-even profitability in its 	
infrastructure segment and total operating margins remain less than 7% this 	
year, or if free operating cash flow appears likely to remain less than $75 	
million in 2013.	
	
We could revise the outlook to stable if the company appears to be on track to 	
achieve our baseline ratio expectations in 2013. Under our baseline scenario, 	
we expect adjusted total debt to EBITDA will be about 2.4x (excluding 	
restructuring expenses) and FFO to total debt will be just under 30% in 2012, 	
subsequently recovering to 2.2x and more than 35%, respectively, in 2013. FOCF 	
to debt should recover to about 7%-8% in 2013. This is based on the following 	
assumptions:	
     -- Mid-single-digit revenue decline in 2012, as the end of certain 	
contracts and still-soft metals and construction markets offset modestly 	
positive growth in the rail and industrial segments, followed by revenue 	
expansion on pace with global GDP growth in 2013;	
     -- A return to break-even operating profits in the infrastructure segment 	
and total operating margins (excluding restructuring costs) improving to 7% or 	
more in 2012;	
     -- Neutral free cash flow generation in 2012 and about $100 million in 	
2013, based on about $300 million of annual capital expenditures. 	
	
Related Criteria And Research	
     -- Liquidity Descriptors For Global Corporate Issuers, Sept. 28, 2011	
     -- Business Risk/Financial Risk Matrix Expanded, May 27, 2009 	
     -- 2008 Corporate Criteria: Analytical Methodology, April 15, 2008	
	
Ratings List	
Ratings Lowered, Removed From CreditWatch	
                                 To                     From	
Harsco Corp.	
 Corporate credit rating         BBB/Negative/A-3       BBB+/Watch Neg/A-2	
 Senior unsecured                BBB                    BBB+/Watch Neg	
 Commercial paper                A-3                    A-2/Watch Neg	
	
	
Complete ratings information is available to subscribers of RatingsDirect on 	
the Global Credit Portal at www.globalcreditportal.com. All ratings affected 	
by this rating action can be found on Standard & Poor's public Web site at 	
www.standardandpoors.com. Use the Ratings search box located in the left 	
column.
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