TEXT - S&P may still cut Digital Generation ratings

Fri Nov 30, 2012 3:59pm EST

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Overview
     -- We originally placed the ratings on Digital Generation Inc., an 
Irving, Texas-based company that provides technology services for delivering 
media, on CreditWatch with negative implications in July 2012, based on the 
company's plan to explore strategic alternatives. 
     -- The ratings remain on CreditWatch with negative implications. The 
corporate credit rating on Digital Generation remains 'B+'.
     -- The continued CreditWatch listing reflects the possibility that the 
strategic alternative the company ultimately choses could hurt the company's 
credit profile. 

Rating Action
On Nov. 30, 2012, Standard & Poor's Ratings Services said that the ratings on 
Digital Generation Inc. would remain on CreditWatch with negative 
implications. The corporate credit rating remains 'B+'.

Rationale
The original CreditWatch listing was based on Digital Generation's 
announcement that it was exploring strategic alternatives to increase 
shareholder value. Possible alternatives include partnerships, business model 
alternatives, a sale or other transaction. Subsequently on Sept. 10, 2012, 
Standard & Poor's Ratings Services lowered its ratings (including the 
corporate credit rating) on Digital Generation to 'B+' from 'BB-', based on 
weak operating performance. 

We believe the company's performance will improve modestly in the rest of 2012 
and 2013. Digital Generation's operating performance was soft in the third 
quarter, but in line with our revised expectation in September. Quarterly 
revenues increased 11% year over year, but EBITDA declined 11% year over year. 
The poor performance was mainly a result of weakness at its online segment, 
which has an outsized exposure to Europe. The company's TV segment is more 
stable, but its profitability is suffering from lower spending by movie studio 
clients as well as overall pricing pressure. We expect about 20% revenue 
growth (mainly from acquisitions) in 2012, and low-single-digit percentage 
revenue growth in 2013. Our EBITDA expectations for the full year 2012 and 
2013 are for mid- to low-single-digit percentage annual EBITDA growth.

We believe the company can maintain sufficient covenant headroom over the next 
12 months, approximately, together with $69 million in cash, cash equivalents, 
and short-term investments, and our expectation of more than $50 million in 
discretionary cash flow for full-year 2012 and 2013. If operating performance 
proves weaker than our revised expectations, the margin of compliance with 
covenants could narrow when the maximum debt leverage ratio steps down in June 
2013. In the third quarter, Digital Generation's margin of compliance with its 
maximum leverage covenant tightened to about 8% because of the EBITDA decline. 
For the 12 months ended Sept. 30, 2012, debt leverage was 3.9x, down modestly 
from 4.0x at the end of 2011, resulting from debt repayment from cash flow. 

CreditWatch
In resolving the CreditWatch listing, we will assess the likely credit impact 
of the strategic alternative chosen by Digital Generation's board of directors 
and discuss with the management team its operating and financial strategies. 
If the company's margin of financial covenant compliance decreases further 
from the current level without prospects of a reversal, and cash and 
short-term investments decline meaningfully, we could lower the ratings to 'B' 
prior to resolution of the CreditWatch. 

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
     -- 2008 Corporate Criteria: Analytical Methodology, April 15, 2008

Ratings List

Ratings Remain On CreditWatch

Digital Generation Inc.
 Corporate Credit Rating       B+/Watch Neg/--
 Senior Secured                B+/Watch Neg
   Recovery Rating             3
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