TEXT-S&P rates RR Donnelley credit facility 'BBB-'
Sept 19 - Overview -- U.S.-based commercial printing company R.R. Donnelley has proposed the issuance of a senior secured revolving credit facility of up to $1.25 billion. -- We are assigning the revolving credit facility our 'BBB-' issue-level rating and recovery rating of '1'. -- At the same time, we revised our recovery ratings on the company's existing senior unsecured debt to '4' from '3'. The 'BB' issue-level rating remains unchanged. -- The outlook is stable, reflecting our view that revenue declines will not accelerate, EBITDA will rise slightly in 2012 with lower restructuring charges, and that leverage will gradually decline to the high 3x area by the end of 2013. Rating Action On Sept. 19, 2012, Standard & Poor's Ratings Services assigned R.R. Donnelley & Sons Co. (RRD) proposed senior secured revolving credit facility of up to $1.25 billion, an issue-level rating of 'BBB-' (two notches higher than the 'BB' corporate credit rating on the company) with a recovery rating of '1', indicating our expectation of very high (90% to 100%) recovery for lenders in the event of a payment default. The new revolver will replace the existing $1.75 billion senior unsecured revolving credit facility, which expires in December 2013. With $325 million drawn at June 30, 2012, additional availability under the current facility was restricted to about $1 billion by outstanding balances on the facility and the financial covenants as of June 30, 2012. At the same time, we revised our recovery rating on the company's senior unsecured bonds to '4' (30% to 50% recovery expectation) from '3' (50% to 70%) due to new secured debt reducing the total value available to the unsecured debt. The 'BB' issue-level rating on those bonds remains unchanged, as we do not notch our issue ratings from the corporate credit rating for a recovery rating of either '3' or '4'. In addition, we have affirmed our 'BB' corporate credit rating on RRD. The outlook is stable. Rationale Our rating on Chicago-based R.R. Donnelley & Sons (RRD) reflects the company's positive cash flow generation despite revenue declines, and our expectation that leverage will decline to the high 3x area over the near-term, provided that economic and pricing pressures do not worsen. We regard the company's financial risk profile as "significant" (based on our criteria). Our "fair" business risk profile reflects RRD's market position and efficiencies associated with its critical mass. The company faces secular declines in several of its products and pricing pressure because of industry overcapacity. We believe that these trends could cause RRD's organic revenue to decline over the near term. The printing industry has steadily lost ground to electronic distribution of content and online advertising. As a result, it has been afflicted by overcapacity, chronic pricing pressure, and the need to continuously take out costs. RRD is the largest participant in the industry, with broad-based services that address a variety of end markets. RRD's size confers important efficiencies, the capacity to provide one-stop service to clients, the ability to invest in leading technology, and the ability to cope with pricing pressure more successfully than many of its competitors. Nevertheless, several of its important end markets, notably the magazine, retail inserts, directory, and book businesses, are subject to long-term adverse fundamentals. Industry volume shrinkage is likely to continue to necessitate capacity downsizing and restructuring charges. Our base-case scenario incorporates our expectation that revenue could decline at a low-single-digit percent rate for the full year, despite recent customer wins. We believe that EBITDA will be relatively flat this year. We assume modest EBITDA margin expansion based on the potential for lower restructuring charges in 2012 following high restructuring expenses in 2011 related to the acquisition of Bowne & Co. Inc. We expect revenue could be flat or decline at a low-single-digit percentage rate in 2013 and for EBITDA to decline at a low- to mid-single-digit percentage rate, which would cause EBITDA margin gains in 2012 to reverse. In the second quarter, revenue declined 3.6%. EBITDA, which we calculate including restructuring charges, increased 4.3%, partially because of lower restructuring charges. The EBITDA margin grew to 11.1% in the last 12 months ended June 30, 2012, from 10.9% in the same period last year. RRD's leverage (adjusted primarily for pension and lease obligations and including restructuring charges) was 4.3x for the 12 months ended June 30, 2012. Leverage was above the adjusted debt-to-EBITDA range of between 3x and 4x that we associate with a significant financial risk profile. Management has stated that it intends to maintain a leverage target of 2.5x to 3.0x, according to its calculations, which excludes restructuring charges and pension and lease adjustments. The company also stated that it intends to pay down debt this year. In November 2011, management announced that it is freezing its pension plan. Restructuring charges were relatively high in the last 12 months ended June 30, 2012, because of the acquisition of Bowne in November 2010. We expect that leverage will decline to the high 3x area by the end of 2012 and remain at that level in 2013, assuming that restructuring charges normalize and the company pays back some debt with free cash flow. Further weakening of the economy, coupled with additional restructuring charges by the company, could cause us to revise our leverage assumptions. The company converted about 32% of EBITDA to discretionary cash flow at June 30, 2012. We expect the company to convert roughly 25% of EBITDA to discretionary cash flow this year. Liquidity Pro forma for the proposed revolving credit facility, RRD has "adequate" liquidity, in our view, to cover its needs over the next 12 months, even with moderate unforeseen EBITDA declines. Our assessment of RRD's liquidity profile incorporates the following expectations and assumptions: -- We expect sources to cover uses by more than 1.2x for the upcoming 12 months. -- We believe sources minus uses would remain positive if EBITDA were to drop by 15%. -- Compliance with maintenance covenants would survive a 15% decline in EBITDA. -- We believe the company could absorb high-impact, low-probability events without refinancing. We expect RRD to generate positive discretionary cash flow of roughly $300 million for the full year after annual capital expenditures of roughly $200 million to $225 million, and dividend payments of roughly $190 million. We expect the company to generate about $300 million in discretionary cash flow in 2013, benefiting from recent pension legislation that relaxes a pension's sponsor's cash funding requirements, but offset by our expectation of lower EBITDA. RRD does not have any significant near-term maturities. The proposed senior secured revolver of up to $1.25 billion will replace the current $1.75 billion unsecured revolver, which matures in December 2013. As of June 30, 2012, additional availability under that revolver was restricted to about $1 billion by outstanding balances on the facility and the financial covenants. Proposed covenants include a 3.75x total leverage ratio (versus 4x for the current facility) and a 3.0x interest coverage covenant (similar for the current facility). The company had $325 million drawn under the current revolver and $369 million of cash on its balance sheet as of June 30, 2012. Recovery analysis For the latest recovery analysis, see Standard & Poor's recovery report on Donnelley, to be published on RatingsDirect as soon as possible following the release of this report. Outlook The stable rating outlook reflects our expectation that the company's revenue, while pressured, will not fall precipitously and that debt repayment from cash flow will facilitate leverage declining to the high 3x area. We could lower the rating if we conclude that secular risks facing the company have increased and could cause organic revenue to decline at a brisker pace or that leverage will be chronically above 4x with little prospect for improvement. This could occur if revenue were to decline at a mid-single-digit percent rate and if the company's EBITDA margin were to decline. We could raise the rating if we become convinced that operating performance and industry conditions have stabilized, neither of which we regard as likely over the intermediate term, coupled with a commitment to debt repayment. Related Criteria And Research -- Liquidity Descriptors for Global Corporate Issuers, Sept. 28, 2011 -- Criteria Guidelines For Recovery Ratings, Aug. 10, 2009 -- Business Risk/Financial Risk Matrix Expanded, May 27, 2009 -- Standard & Poor's Revises Its Approach To Rating Speculative-Grade Credits, May 13, 2008 Ratings List Ratings Affirmed To From R.R. Donnelley & Sons Co. Corporate Credit Rating BB/Stable/-- Senior Unsecured BB Recovery Rating 4 3 New Rating R.R. Donnelley & Sons Co. Up to $1.25B revolver due 2017 BBB- Recovery Rating 1 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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