TEXT-S&P rates Gray Television refi transaction 'B'

Mon Sep 24, 2012 2:19pm EDT

Overview
     -- Atlanta, Ga.-based TV broadcaster Gray Television is refinancing
its existing capital structure.
     -- We are assigning the company's proposed senior secured revolving 
credit facility our 'BB-' issue-level rating , the proposed term loan B our 
'B' issue-level rating, and the proposed senior unsecured notes our 'CCC+' 
issue-level rating.
     -- We are affirming our 'B' corporate credit rating on Gray.
     -- The stable rating outlook reflects our expectation that Gray's 
leverage, based on average trailing-eight-quarter EBITDA, will approach 7x by 
the end of 2012 and will remain at that level in 2013, and that financial 
policy, especially with regard to debt-financed acquisitions, will remain in 
check.
 
Rating Action
On Sept. 24, 2012, Standard & Poor's Ratings Services assigned Gray's proposed 
$40 million revolving credit facility due 2015 our 'BB-' issue-level rating 
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. At the same 
time, we assigned the proposed $625 million senior secured term loan B due 
2019 our 'B' issue-level rating with a recovery rating of '3' (50% to 70% 
recovery expectation). The revolver is notched higher than the term loan B 
because it could have a first priority, first-out feature. 

We also assigned Gray Television Inc.'s proposed $250 million senior unsecured 
notes due 2020 our 'CCC+' issue-level rating with a recovery rating of '6' (0% 
to 10% recovery expectation). 

The company plans to use the proceeds from the proposed notes and credit 
facility and cash balance ($28 million as of June 30, 2012) to refinance the 
company's existing debt (consisting of $365 million 10.5% senior secured 
second-lien notes due 2015 and a $460.6 million senior secured term loan B) 
and redeem the series D preferred stock ($22.6 million outstanding). As a 
result of the transaction, adjusted leverage will increase to 7.4x debt to 
last-12-month EBITDA from 7.2x. We will withdraw our ratings on the existing 
debt when the transaction closes and that debt is repaid.

In addition, we are affirming the 'B' corporate credit rating on Gray. The 
rating outlook is stable. 

Rationale
Our ratings on Atlanta, Ga.-based TV broadcaster Gray reflect the company's 
high debt leverage and weak discretionary cash flow, both of which we expect 
will persist. The stable rating outlook reflects our expectation that Gray 
will maintain lease-adjusted debt to average trailing-eight-quarter EBITDA 
below 7.5x. Pro forma for the proposed transaction, leverage, on an average 
trailing-eight-quarter basis, will be 7x. We also expect the company to 
generate modest positive discretionary cash flow in 2012.

Our rating on Gray also reflects our assessment of the company's business risk 
profile as "fair" and its financial risk profile as "highly leveraged," based 
on our criteria. We view Gray's business risk profile as "fair" because of its 
relatively good EBITDA margin compared with peers', despite a lack of adequate 
critical mass and its concentration in small-to-midsize TV markets. Factors in 
our assessment of Gray's financial risk profile as "highly leveraged" include 
its weak EBITDA coverage of interest, high debt leverage, and minimal 
discretionary cash flow. The company's debt to average trailing-eight-quarter 
EBITDA of 7x and funds from operations to debt of 5.2%--both pro forma for the 
proposed transaction--are in line with Standard & Poor's financial risk 
indicative ratios of greater than 5x and less than 12%, respectively, for a 
"highly leveraged" financial risk profile.

Gray operates 38 TV stations (with two about to become operational) in 30 
small and midsize U.S. TV markets, reaching only about 6% of U.S. TV 
households. The company generates the majority of its revenue and EBITDA from 
TV stations affiliated with the CBS and NBC networks. Stable, market-leading 
local newscasts and good overall viewership ratings for the company's TV 
stations--many in state capitals or in cities with major state universities-- 
support the company's business profile, help attract political advertising, 
and contribute to the company's relatively good EBITDA margin. At the same 
time, the cyclical nature of TV advertising, the mature long-term growth 
prospects of TV broadcasting, and increasing competition for audience and 
advertisers from traditional and nontraditional media limit upside potential 
for Gray and other TV station groups.

Under our base-case scenario for 2012, we expect Gray's revenue to grow at a 
high-teens percentage rate and EBITDA to rise 40% to 45%, mainly because of 
sharp increases in political ad revenue and retransmission fees from recently 
renewed carriage contracts, despite only low-single-digit percent growth in 
core ad revenue. We also expect substantial EBITDA margin expansion, to about 
39% (from 32% in 2011), as the proportion of political advertising in the 
revenue mix is significantly higher for Gray than for its peers, leading to 
higher revenue and EBITDA variability between election and nonelection years. 
For 2013, we expect revenue to decline at a low double-digit-digit percent 
rate, due to lower political advertising and expectations of less than 2% core 
revenue growth. We expect EBITDA to decline by over 30% as revenue 
retransmission fees to the networks grows and for margins to decline to the 
low 30% area

For Gray's second quarter, revenue and EBITDA jumped 24% and 54%, 
respectively; driven largely by strong growth in retransmission fees and 
political ad revenue. Core ad revenue grew by 2.5% as the largest 
category--auto advertising--rose 20%. EBITDA margin improved to over 40%, 
almost 800 basis points higher than the same quarter in 2011.

As of June 30, 2012, Gray's debt (adjusted for leases, pensions, and preferred 
stock) to EBITDA ratio was elevated, at 7.2x, up from 6.7x a year ago. Using 
trailing-eight-quarter average EBITDA to smooth the differences between 
election and nonelection years, Gray's lease-adjusted debt to EBITDA was still 
high, at 6.8x, but down from 8.1x a year ago. EBITDA coverage of interest 
(including preferred stock dividends) was weak, at 1.8x for the quarter, in 
line with 1.9x a year ago. We expect leverage and interest coverage to improve 
in 2012 with the rebound of political ad revenue and steep increases in 
retransmission fees from recent carriage contract renewals. Leverage, on a 
trailing-four-quarter EBITDA basis, could drop to 6x at the end of 2012, in 
our view, and on a trailing-eight-quarter average basis could approach 7x. We 
expect leverage on a trailing-four-quarter average EBITDA basis to increase to 
the mid-8x area by year-end 2013. However, on a trailing-eight-quarter basis, 
leverage should remain unchanged at about 7x.

Conversion of EBITDA into discretionary cash flow was at the low end of its 
peers at 33% as of June 30, 2012, partly because of cash dividends on 
preferred stock. We expect discretionary cash flow to improve significantly 
over the 2011 rate of 7.4% and end the year in the mid-20% area. For 2013, we 
expect this ratio to improve further toward the mid-30% area because of lower 
capital spending and the elimination of the preferred. 

Liquidity
Based on our criteria, we regard Gray's sources of liquidity as "adequate" to 
cover uses over the next 12 to 18 months. Our assessment of the company's 
liquidity profile incorporates the following, expectations, and assumptions:
     -- We expect that the company's sources of liquidity over the next 12 to 
18 months will exceed its uses by at least 1.2x. 
     -- We expect that net sources will be positive, even if EBITDA drops 30%, 
which is normal for a local TV broadcaster in a nonelection year.
     -- We expect that covenant headroom under the proposed facility would be 
sufficient for EBITDA to decline 30% or more without breaching its financial 
covenants. Covenants are calculated on a trailing average-eight-quarter 
average EBITDA basis.
     -- In our view, the company has the ability to absorb, with limited need 
for refinancing, low-probability, high-impact events over the next 12 months. 
     -- Gray has good relationships with its banks, in our assessment, and has 
a good standing in the capital markets.
 
Liquidity sources include cash balances of $10 million, pro forma for the 
proposed transaction (the company typically maintains minimal cash balances), 
modest discretionary cash flow, and availability of about $34 million under 
its proposed $40 million revolving credit facility. These liquidity sources 
will be more than sufficient to fund the company's modest working capital 
needs, annual capital expenditures of between $15 million and $20 million (per 
our assumptions), and scheduled term loan amortization of about $6 million. 
For 2012, we expect the company to generate $25 million to $30 million of 
discretionary cash flow, mainly when political ad revenue peaks in the second 
half of the year. For 2013, we expect Gray will generate over $40 million of 
discretionary cash flow.

We expect Gray's proposed credit facilities to contain at least a total net 
leverage covenant. The covenant calculations use EBITDA calculated on an 
average trailing-eight-quarter basis. As of June 30, 2012, under its existing 
credit facility, the company had a 46% EBITDA cushion of compliance under its 
6.5x first-lien leverage covenant and a 24% EBITDA cushion under its 1x 
fixed-charge coverage covenant.

Recovery analysis
For the latest recovery analysis, see Standard & Poor's recovery report on 
Gray, to be published on RatingsDirect as soon as possible following the 
release of this report.
 
Outlook
The stable rating outlook reflects our expectation that Gray's leverage, based 
on average trailing-eight-quarter EBITDA, will approach 7x by the end of 2012 
and will remain at that level in 2013, and that financial policy, especially 
with regard to acquisitions, will remain in check. We regard an upgrade and 
downgrade as equally unlikely at this point in time.

We could lower the rating if a decline in core ad revenue or other revenue 
pressures in a nonelection year cause the EBITDA cushion of covenant 
compliance under Gray's tightest covenant to thin to less than 10%. An 
expensive debt-financed acquisition that drives leverage higher could also 
lead to a downgrade.

We could raise the rating if EBITDA growth momentum and debt repayment reduce 
the company's lease-adjusted debt to average trailing-eight-quarter EBITDA to 
the low-6x area, and management expresses an intention to remain at that level.

Related Criteria And Research
     -- Liquidity Descriptors For Global Corporate Issuers, Sept. 28, 2011
     -- Business Risk/Financial Risk Matrix Expanded, May 27, 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

Ratings Affirmed

Gray Television Inc.
 Corporate Credit Rating                B/Stable/--        
 Senior Secured First-Lien              B+
   Recovery Rating                      2
 Senior Secured Second-Lien             CCC+               
   Recovery Rating                      6                  

New Rating

Gray Television Inc.
 $40M sr secd revolver due 2017         BB-                
   Recovery Rating                      1                  
 $625M term ln B due 2019               B                  
   Recovery Rating                      3                  
  $250M sr unsecd nts due 2020          CCC+               
   Recovery Rating                      6