TEXT-S&P cuts Tyco International senior unsecured notes to 'BBB+'

Wed Oct 3, 2012 5:25pm EDT

Overview
     -- Switzerland-based Tyco International Ltd. has completed the separation 
of its North American residential security and its flow control businesses.
     -- We are affirming our 'A-' long-term and 'A-2' short-term corporate 
ratings on Tyco and wholly owned finance subsidiary Tyco International Finance 
S.A. (TIFSA).
     -- We are lowering our issue-level ratings on Tyco's and TIFSA's senior 
unsecured notes to 'BBB+' from 'A-', one notch below the corporate credit 
rating, and are removing the ratings on these notes from CreditWatch with 
negative implications. 
     -- The outlook is stable, reflecting our expectation that the company 
will calibrate its acquisition and shareholder returns spending to its cash 
flow generation, such that leverage remain at about 2x, consistent with our 
expectations for the rating.  
 
Rating Action
On Oct. 3, 2012, Standard & Poor's Ratings Services affirmed its 'A-' 
long-term and 'A-2' short-term corporate ratings on Tyco and wholly owned 
finance subsidiary Tyco International Finance S.A. (TIFSA). The outlooks are 
stable.

We are lowering our issue-level ratings on Tyco's and TIFSA's senior unsecured 
notes to 'BBB+' from 'A-', one notch below the corporate credit rating, and 
are removing the ratings on these notes from CreditWatch with negative 
implications, where they were placed on Sept. 19, 2011. 

Rationale
The affirmation of the 'A-/A-2' corporate credit ratings follows the 
completion of Tyco's separation into three separate entities and our 
expectation that Tyco will maintain a "strong" business risk profile and an 
"intermediate" financial risk profile. The downgrade of the senior unsecured 
notes rating to one notch below the corporate credit rating reflect the 
elevated degree of structural subordination of Tyco and TIFSA's debt 
obligations to priority liabilities at the companies' operating subsidiaries.

Following the completion of the spin-offs of its North American residential 
security business and flow control businesses, we expect Tyco to continue to 
operate with credit metrics that are adequate for the 'A-' rating. In 
particular, while acquisitions, shareholder distributions, and the company's 
exposure to cyclical construction markets may at times result in leverage that 
is somewhat higher than at separation, we expect debt to EBITDA will not 
meaningfully exceed 2x  more than temporarily.


We consider Tyco's business risk profile to be strong. The company is the 
global leader in its industry, with a No. 1 share (we estimate it to be about 
10%) in highly fragmented global markets. Its portfolio of product and service 
capabilities is among the most comprehensive in the sector and it benefits 
from well-known brands and a balanced global footprint, with good exposure to 
faster-growing emerging markets. Within its commercial markets, Tyco has broad 
customer diversity spanning the retail, industrial, institutional, and energy 
sectors. 

In addition, business stability benefits from the significant proportion of 
recurring revenues (about 45%) derived from relatively stable service 
contracts. This has in the past, and should continue to, help temper the 
cyclicality of the product and installation businesses and the company's 
exposure to construction and business investment cycles. 

Business risks include the company's exposure to economic, competitive, and 
technological trends affecting the commercial security and fire protection 
markets and to commercial construction cycles and markets. The industry is 
fragmented and competitive and Tyco competes with a few other global security 
and fire protection service providers, which sometimes have more extensive 
building management and integration capabilities, and with a multitude of 
smaller regional or local players. 

Tyco's profitability, with our expectation for 2012 EBITDA margins in the 
mid-teens, is average for the capital goods sector and similar to margins of 
other participants in the security and safety industry or large industrial 
companies with whom Tyco competes (including United Technologies Corp.'s CCS 
division, Stanley Black & Decker, Ingersoll-Rand PLC). The company's 
operations are less capital-intensive than prior to the divestiture of the 
residential security business, but still somewhat more than its peers, at 
about 4% of sales. About 50% of capital expenditures relate to company-owned 
security systems installed in customer's premises outside of North America. 
Factors that will influence profitability include the company's ability to 
adjust its corporate expenses to its reduced size (managements expect these to 
be about $225 million annually), trends in raw material and labor costs, 
trends in attrition rates, and the intensity of price competition for the 
company's products and services, especially for system installations and 
certain commoditized product lines. 

We characterize Tyco's financial profile as intermediate. In connection with 
the spin-offs, Tyco has reduced its debt to $1.5 billion from about $4 billion 
previously. Adjusting for operating leases, postretirement obligations, and 
for our assumption of up to $500 million in contingent tax liabilities, Tyco's 
financial leverage is slightly below 2x and funds from operation to total debt 
exceeds 40%. 

According to the 2012 tax-sharing agreement, Tyco retains up to $500 million 
of pre-2007 legacy tax liabilities, and would share any additional liabilities 
with ADT Corp. and Pentair Ltd. As of June 30, 2012, the company had reserved 
$406 million for these matters, and an additional $72 million was recorded 
upon separation. The ultimate amounts and the timing of possible cash outflows 
remain undetermined, however, and the company expects to litigate certain 
unresolved matters. Should liabilities ultimately significantly exceed the 
$500 million that we have assumed, the rating could come under pressure. 

We rate Tyco and TIFSA's senior unsecured notes 'BBB+', one notch below the 
corporate credit rating. Tyco guarantees the obligations, and as was 
previously the case, the notes do not benefit from upstream guarantees from 
operating subsidiaries. Assets at the parent and finance company are 
essentially limited to investments in these subsidiaries. Although there is no 
meaningful external financial indebtedness at the operating subsidiaries, we 
estimate that the ratio of priority obligations (including trade payables, 
pensions, and other obligations) at these entities to adjusted total assets 
significantly exceeds our notching threshold of 20%, and has increased 
postseparation. In addition, we also considered that the company's business 
lines are now more focused, and we are placing less reliance on 
diversification than before as a potential mitigating factor to the structural 
disadvantage of the parent company's obligations. Both factors contribute to 
the lowering of the issue-level rating. 


Liquidity
The short term rating on Tyco is 'A-2'. We expect the company to maintain 
"strong" liquidity. Following the redemption of $2.6 billion of debt as part 
of the separation, Tyco's debt maturities are now essentially long term, 
including about $258 million due in 2015, and $364 million due in 2019. 

We have assumed the following liquidity sources in our analysis: Annual funds 
from operations of about $1 billion, a cash balance of about $600 million, and 
access to a $1 billion revolving credit facility that matures in 2017. The 
facility backs-up commercial paper borrowings, and availability is governed by 
financial covenants, including a leverage test of no more than 3.5x. We expect 
Tyco to maintain adequate headroom over this requirement. 

Liquidity uses we expect include capital expenditure of about $450 million 
next year, and annual dividend payments that the company target will 
approximate 30% to 35% of net income (or about $300 million in 2013). Cash 
flow generation tends to be weak during the first quarter of the fiscal year 
end because of seasonal working capital requirements, and to be strongest in 
the third and fourth quarter. Other liquidity uses could include payments 
related to contingent liabilities, acquisition, and share buybacks.

Outlook
The outlook is stable. We expect financial leverage to remain at about 2x as 
low- to mid-single-digit revenue growth and slow margin expansion provide for 
moderate profit growth and management uses free cash flow for growth and 
shareholder returns. 

We could lower the ratings if either weak global commercial construction 
activity or lower capital spending in key end markets such as retail or oil 
and gas cause revenues to decline more than 10% along with EBITDA margin 
falling toward 13%. We could also downgrade the company if more aggressive 
acquisition or buyback activity, or an unexpected significant increase in 
contingent liabilities causes leverage to exceed 2x and FFO to fall and remain 
below 40%.

We could raise the rating if Tyco further diversifies its business portfolio 
and shows sustained improvement in EBITDA margin and return on capital 
measures, and if the company continues to make progress toward the resolution 
of its contingent liabilities while maintaining financial policies consistent 
with a higher rating, such as FFO to total debt of 45% to 50%. 

Related Criteria And Research
     -- Business Risk/Financial Risk Matrix Expanded, Sept. 18, 2012
     -- Liquidity Descriptors For Global Corporate Issuers, Sept. 28, 2011
     -- 2008 Corporate Criteria: Analytical Methodology, April 15, 2008

Ratings List

Ratings Affirmed

Tyco International Ltd.
 Corporate Credit Rating                A-/Stable/A-2      

Tyco International Finance S.A.
 Corporate Credit Rating                A-/Stable/--       
 Commercial Paper                       A-2                

Rating Lowered; CreditWatch Action
                                        To                 From
Tyco International Finance S.A.
 Senior Unsecured                       BBB+               A-/Watch Neg
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