TEXT-S&P affirms Epicor Software 'B' rating
Overview -- U.S. enterprise resource planning (ERP) solutions provider Epicor Software Corp. is issuing $340 million holdco senior discount notes due 2017 to fund a distribution to sponsor. -- We are affirming our 'B' corporate credit rating on the company. The outlook is stable. -- The stable outlook reflects our expectations for continued good revenue visibility from highly recurring revenue and consistent positive free operating cash flow (FOCF), enabling a modest decline in leverage over the intermediate term. Rating Action On Nov. 8, 2012, Standard & Poor's Ratings Services affirmed its 'B' corporate credit rating on Epicor Software Corp. The outlook is stable. We assigned our 'CCC+' issue-level rating and '6' recovery rating to the $340 million holding company (holdco) senior discount notes due 2017 issued by the parent company of Epicor Software Corp., Eagle Midco Inc. Epicor will use the proceeds for a distribution to the sponsor. The '6' recovery rating indicates that lenders can expect a negligible (0% to 10%) recovery of principal in the event of a payment default. At the same time, we are affirming the 'B+' issue-level rating on Epicor's senior secured credit facility. Its recovery rating remains at '2', indicating that lenders can expect a substantial (70% to 90%) recovery of principal in the event of a payment default. Additionally, we are affirming the 'CCC+' issue-level rating on the company's senior unsecured notes. Their recovery rating remains at '6' indicating that lenders can expect a negligible (0% to 10%) recovery of principal in the event of a payment default. Rationale The rating on Epicor reflects Standard & Poor's view of the company's highly recurring revenue base from its ERP software maintenance and services, and consistently positive free operating cash flow (FOCF) generation. We view the company's business risk profile as "weak," primarily characterized by its competition with much larger and more diversified software firms. We view the company's financial risk profile as "highly leveraged." The company has an aggressive financial policy as demonstrated by its high leverage level of about 7x, pro forma for the discount notes issuance, up from about 6.1x on June 30, 2012, pro forma for the purchase accounting adjustment from the Activant merger in May 2011. Epicor is a midtier ERP solutions provider that focuses on the manufacturing, retail, distribution, and services verticals; however, it is still subject to industry cyclicality, especially in the retail and housing-related end markets. The company announced the acquisition of Solarsoft Business Systems in September 2012, which we expect to strengthen Epicor's product offerings in midmarket ERP, specializing in the manufacturing and distribution verticals. We anticipate the company's organic revenue growth over the next year to be in the low-single-digit percentage area year over year, as organic growth from its ERP solutions to midsize businesses is partly offset by retail and housing-related end markets feeling the constraints of ongoing high unemployment and falling consumer confidence. Epicor derives a significant amount of recurring revenue from maintenance and services and has renewal rates at over 90% (with more than 80% of revenues from its installed customer base). We expect these factors to continue to provide revenue visibility and consistent profitability and cash flows. We expect the company's margins to be relatively stable in the mid-20% area after the successful integration of Activant, and above the midteen level prior to the Activant merger in July 2011. We view Epicor's financial risk profile as highly leveraged. Pro forma for the purchase accounting adjustment from the Activant merger and the discount notes issuance, operating lease-adjusted leverage would be about 7x, higher than the 6.1x level on June 30, 2012, and about the same level as immediately after the close of the merger with Activant in July 2011. We expect the company's pace of leverage reduction to be slower now because of the issuance of the $340 million holdco senior discount notes, with leverage to remain at or above the mid-6x level over the next two years, primarily as a result of interest accrual partly offsetting EBITDA growth. Liquidity Epicor's sources of cash provide "adequate" liquidity. Cash sources include cash and short-term investment balances of about $35 million at close of the dividend recapitalization transaction, and expected positive annual FOCF. Availability would be limited from the company's $75 million revolver because of the amount drawn for the acquisition of Solarsoft. We expect uses to include modest, growth-related working capital investments and annual capital expenditures of about 4% of total revenues. Additional relevant factors of Epicor's liquidity, in our view, are as follows: -- We expect sources of cash to be above 1.2x over the next 12 to 24 months. -- We also expect net sources to be positive in the next 12 months, even if EBITDA falls by 15% to 20%. -- We don't expect or incorporate any significant acquisitions in the rating. Recovery analysis The issue-level rating on the $340 million holding company (holdco) senior discount notes due 2017 issued by the parent company of Epicor Software Corp., Eagle Midco Inc., is 'CCC+'. The '6' recovery rating indicates that lenders can expect a negligible (0% to 10%) recovery of principal in the event of a payment default. The issue-level rating on Epicor's senior secured credit facility is 'B+' and the recovery rating is '2'. This indicates that lenders can expect a substantial (70% to 90%) recovery of principal in the event of a payment default. In addition, the issue-level rating on the company's existing senior unsecured notes is 'CCC+' and the recovery rating is '6'. This indicates that lenders can expect a negligible (0% to 10%) recovery of principal in the event of a payment default. Outlook The outlook is stable, reflecting good revenue visibility from high recurring revenue and consistent positive FOCF. Although we consider an upgrade unlikely over the next two years, we could raise the ratings if organic revenue growth accelerates, improving EBITDA margin above the mid-20% area such that leverage falls to the low-5x area. If revenue declines or profitability deteriorates because of intense competition or loss of leadership position in the midmarket ERP market, resulting in inability to modestly reduce leverage as we expect, we could consider a rating downgrade. Related Criteria And Research -- Business Risk/Financial Risk Matrix Expanded, Sept. 18, 2012 -- Liquidity Descriptors For Global Corporate Issuers, Sept. 28, 2011 -- Use Of CreditWatch And Outlooks, Sept. 14, 2009 -- Criteria Guidelines For Recovery Ratings, Aug. 10, 2009 -- 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 New Rating Eagle Midco Inc. Senior Unsecured US$340 mil discount notes nts due 2017 CCC+ Recovery Rating 6 Ratings Affirmed Epicor Software Corp. Corporate Credit Rating B/Stable/-- Senior Secured B+ Recovery Rating 2 Senior Unsecured CCC+ Recovery Rating 6 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. 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