TEXT-S&P cuts Becton Dickinson rating to 'A' on industry pressure
Overview -- U.S. medical products manufacturer Becton Dickinson & Co. has not met our 2012 expectations and we now believe that the company's business risk profile, while still strong, has lost some luster. -- As a result, we are expecting only limited improvement in operating trends and credit measures that remain elevated from last year's leveraged share repurchase program. -- We are lowering our long-term corporate credit and issue-level ratings on the company to 'A' from 'A+', and lowering the commercial paper rating to 'A-1' from 'A-1+, in conjunction with our criteria linking our long- and short-term ratings. -- Our stable rating outlook on the company reflects expectations that the company will maintain a strong business risk profile and will sustain current margins over the next few years. Rating Action On Nov. 29, 2012, Standard & Poor's Ratings Services lowered its long-term corporate credit rating and issue-level ratings on Franklin Lakes, N.J.-based Becton Dickinson & Co. (BD) to 'A' from 'A+', and short-term debt rating to 'A-1' from 'A-1+'. The outlook is stable. The preliminary rating on the shelf debt is lowered to 'A' from 'A+', and preferred stock to 'BBB+' from 'A-'. Rationale The ratings on Becton Dickinson & Co. reflect the multinational, medical product manufacturer's still-strong business risk profile, characterized by its diversity and large scale. These factors position BD to contend with competitive pressures in medical technology that are testing its business strength. We still consider BD's financial risk as "modest" (according to our criteria), though we now expect more limited improvement in credit measures, following a performance that was weaker than we expected in fiscal 2012. Notwithstanding its business strengths, we believe that operating pressures will continue to weigh on the company's prospects. Following fiscal 2012 margin compression in excess of 200 basis points, we do not expect a meaningful improvement in adjusted EBITDA margins above 29% in the year ahead. We expect BD's fiscal 2013 adjusted EBITDA to be burdened by about $100 million in costs related to an upgrade of the enterprise resource planning (ERP) system and the imposition of the medical device tax in 2013. Along with the absence of EBITDA from the discontinued Labware business, our base case now assumes adjusted fiscal 2013 EBITDA will be more than 10% below the level we had anticipated last year. Still, BD's diversity remains a key aspect of its "strong" business risk profile, and contributes to our expectation that it will post a low- to mid-single-digit constant-currency revenue increase in fiscal 2013. We expect the growth of its Medical and Diagnostics segments will keep pace with the gain, and outshine very limited organic expansion in the relatively small Biosciences segment. Our base case incorporates low-single-digit growth in U.S. health spending, and flat expenditures for research, because of academic and government budgetary pressures. We expect international revenues (57% of the company's total) to benefit from increasing participation in emerging markets. This provides an offset to the dampening effect posed by economic travails in some European countries, and underscores the benefit of BD's broad geographic footprint. We expect near-mid-single-digit growth in the medical business (about one-half of corporate revenues) to about evenly reflect modest price and volume increases. Amid global economic crosscurrents, demand from BD's customers is bolstered by the largely essential services they provide. The client list is broad, including hospitals, pharmacies, and public health agencies that purchase needles, syringes, intravenous catheters, and other medical staples. We expect growth to be aided by newer devices, such as those in the areas of pre-fillable drug delivery systems for pharmaceutical companies, and pen needles for self-injecting insulin. We expect revenues in the diagnostics segment (more than one-quarter of the corporate total) to grow at a rate similar to that for medical products. Our base-case scenario assumes relatively steady demand by hospitals, laboratories, blood banks, and physician offices for equipment and supplies for blood collection and culturing. This should be supplemented by tuck-in acquisitions and new products for the detection of infectious diseases and cancer. We also believe international diagnostic growth prospects are aided by the demand for safety products. This could allow the diagnostics segment's overseas revenues to soon approach the size of those in the U.S. Through fiscal 2013, we expect the biosciences segment (less than one-fifth of revenues) to post only slight revenue improvement. Expansion of this segment's international operations is offsetting declines in the U.S., and we do not foresee a change in this trend, because of ongoing government budgetary pressures. Muted U.S. research demand is promoting intensified price competition for generally high-margined life science reagents. We expect the sale of much of BD's lab ware business will reduce the importance of the bioscience segment, paring its activities to cell analysis alone. While the effect of the disposition on BD's overall revenues and business risk is minor, its loss contributes to our reduced EBITDA expectations for fiscal 2013. High barriers to entry tied to BD's large scale remain key to our assessment of its business risk profile as strong, though margin pressures diminish our perception of its competitive advantages. Its well-established positions in global markets provide advantages in R&D, manufacturing, and distribution. R&D spending (6% of revenues) supports a broad patent portfolio, and helps BD address technology developments. Immediate effects from competitive technologies are mitigated by largely recurring revenue streams from high-volume, consumable products. The throughput helps drive down per-unit production costs, aiding manufacturing efficiency. BD's global distribution capability levers its research and production, demonstrated by the double-digit growth of its safety-engineered products. BD's scale advantages contribute to EBITDA margins that are about in line with the profitability of Baxter International, another large, global medical products company with a strong business risk profile. We assume discretionary cash flow should exceed $800 million in the year ahead, but we do not believe that it will be used to meaningfully reduce debt. Instead, those funds we believe will be used for tuck-in acquisitions, dividends and share repurchases, rather than for debt reduction, limiting prospects for a decline in leverage. Accordingly, in the wake of a weaker fiscal 2012 performance than we anticipated, we do not expect an early return of FFO/debt above 45%, and debt leverage to below 2x, although the company performs fairly near these levels. Still, we do expect that a sizable cash hoard will bolster a financial risk profile that we consider "modest." Liquidity Our short-term rating on BD is revised to 'A-1' from 'A-1+', in conjunction with the downgrade, based on our criteria. Our view that BD's liquidity profile remains exceptional incorporates the following: -- We expect liquidity sources (primarily cash and discretionary cash flow) to exceed uses by at least 2x over the next two to three years. This includes dividends, but excludes acquisitions and share repurchases, which we view as more discretionary. -- We expect liquidity sources to continue exceeding uses, even if EBITDA declines by 50%. -- We believe EBITDA in fiscal 2013 will approximate $2.3 billion, and that discretionary cash flow will exceed $800 million, after annual capital expenditures (approximately $525 million) and dividends (exceeding $380 million). -- As of Sept. 30, 2012, BD had $2.1 billion of cash and short-term investments; we tax-effect international holdings for liquidity purposes. -- We assume BD will repay rather than refinance $206 million of notes due in April 2013. -- BD has a $1 billion syndicated credit facility that expires in May 2017. It supports a commercial paper program under which $200 million was outstanding on Sept. 30, 2012. -- We believe BD can absorb a high-impact, low-probability event. -- We believe it has well-established bank relationships and solid access to capital markets. Outlook Our stable rating outlook on Becton Dickinson reflects expectations that the company will maintain a strong business risk profile, evidenced by low- to mid-single-digit revenue growth and will sustain current margins over the next few years, driven by new product introductions, stable pricing, cost-saving programs, tuck-in acquisitions, and geographic expansion. While we believe BD's credits measures will remain rather stretched relative to its modest financial risk profile, its substantial cash flow we assume will fund modest-sized acquisitions and measured share repurchase activity. An unexpected rise in debt would suggest a downgrade if leverage rises toward 2.5x. A ratings downgrade also could occur if there is an unexpected decline in revenues and margins that reflect even more unfavorably on the company's business risk. On the other hand, a rating upgrade most likely would accompany currently unforeseen prospects for an early, sustained improvement in EBITDA margins of 200 basis points, modest revenue growth, and a focus on reduced borrowing to sustain leverage below 2x. Related Criteria And Research -- Business Risk/Financial Risk Matrix Expanded, Sept. 18, 2012 -- Methodology: Short-Term/Long-Term Ratings Linkage Criteria For Corporate And Sovereign Issuers, May 15, 2012 -- Liquidity Descriptors For Global Corporate Issuers, Sept. 28, 2011 -- 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 Downgraded To From Becton Dickinson & Co. Corporate Credit Rating A/Stable/A-1 A+/Stable/A-1+ Senior Unsecured A A+ Commercial Paper A-1 A-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.