TEXT-S&P: Heckmann Corp's rating affirmed
Overview -- Heckmann Corp. has completed its acquisition of Badlands Power Fuels LLC. -- The company executed an add-on issuance of $150 million in senior unsecured notes and increased the size of its unrated revolving credit facility by $175 million to $325 million. -- We affirmed our 'B+' corporate credit rating on Heckmann. -- We also removed our issue-level rating on the company's senior unsecured notes from CreditWatch, raised the issue-level rating to 'B', and revised the recovery rating to '5'. -- The stable outlook reflects our view that Heckmann's credit metrics will be appropriate for the current ratings, as we believe that hydraulic fracturing activity in the company's various shale basins will remain satisfactory and that the company will generate solid profitability from its enhanced geographic diversity and market position. Rating Action On Dec. 7, 2012, Standard & Poor's Ratings Services affirmed its 'B+' corporate credit rating on Scottsdale, Ariz.-based Heckmann Corp. We also removed our issue-level rating on the company's existing senior unsecured notes from CreditWatch, where we originally placed it with positive implications on Oct. 24, 2012. We raised the issue rating on this debt to 'B' from 'B-' and revised the recovery rating to '5' from '6'. We increased the par amount of the notes to $400 million from $250 million and withdrew our ratings on the $150 million of senior unsecured notes which were previously issued under Rough Rider Escrow Inc., a wholly owned unrestricted subsidiary of Heckmann Corp. Heckmann has now assumed the obligations of Rough Rider Escrow and has become the issuer of the notes through a mandatory redemption. The notes constitute an additional issuance of Heckmann's existing 9.875% senior notes due 2018 and are governed by the existing April 10, 2012, indenture. Rationale The affirmation reflects our view that Heckmann's credit quality will remain stable following its acquisition of Power Fuels. We believe Heckmann's market position and credit statistics will improve, but the resulting benefits are not yet sufficient to warrant higher ratings at this time. The company's services are dependent on unconventional energy exploration and production (E&P) methods like hydraulic fracturing in shale basins, and operating results can suffer if market conditions prompt a slowdown in hydraulic fracturing (fracking) activity. Free cash generation could be somewhat limited because of high capital expenditures, and the company still faces significant bargaining power from its customers, which include large multinational oil and gas exploration and production companies. Still, we recognize that the acquisition enhances Heckmann's geographic diversity and market position. Power Fuels' market share in the oil-rich Bakken shale basin, an area which Heckmann did not have meaningful exposure to before the acquisition, increases the company's water transport and disposal sales derived from oil and liquids-rich basins to over 70% from 30%. In addition, credit statistics will improve despite the add-on offering to the senior unsecured notes because Heckmann issued 95 million shares of common stock valued at roughly $370 million as of the Nov. 30, 2012, closing date to fund a majority of the purchase price. The ratings on Heckmann reflect the company's "weak" business risk and "aggressive" financial risk profiles. Pro forma for the acquisition of Power Fuels, the company will relocate its headquarters to Scottsdale, Ariz., from Coraopolis, Pa. Heckmann transports and disposes of the water used in fracking during oil and gas exploration in most major domestic shale regions. The company (through its April 2012 acquisition of Thermo Fluids Inc.) also recycles and reprocesses used motor oil in 18 states across the Western, Mountain, and South Central areas of the U.S. Power Fuels provides water delivery and disposal, fluids transfer and handling, water sales, and equipment rental services. Pro forma for the acquisition, we expect that Power Fuels to account for roughly 52% of the combined company's revenue, while the company's existing water-related and oil-recycling businesses will account for 31% and 17%, respectively. The company's operations are subject to the supplies and pricing of oil and gas, as adverse commodity price movements may stunt the future development and growth rates of shale fracking. The company has grown significantly during the past three years, as sales increased to $232 million for the 12 months ended June 30, 2012, from less than $4 million in 2009. Pro forma for the 2012 acquisitions, we expect sales of over $800 million in 2013. Heckmann was founded in 2007 to make investments in various businesses, and we expect the company to continue to make tuck-in acquisitions from time to time, many of which may require debt financing. Pro forma for the Power Fuels acquisition, we believe Heckmann's market position will strengthen because of scope and diversity. The company will fortify its large asset base in the specialized field of fracking waste water disposal and will have roughly 1,000 trucks in service and more than 3,800 fracking tanks that are available for its customers to lease. Power Fuels operates in the Bakken shale basin, a more oil-rich basin that has seen increases in rig counts than other areas like the natural-gas-concentrated Haynesville basin, which has seen activity drop off substantially. Heckmann's operating results could benefit from the Power Fuels acquisition if oil prices remain high even if natural gas prices remain low. And while activity in the Haynesville, La., basin has curtailed during the past year, the company's underground pipelines provide a key competitive advantage that could prove useful if natural gas prices rise again. One of these pipelines is a PVC pipeline spanning 40 miles that provides fresh water used in the fracking process, and another is a fiberglass pipeline that stretches for 50 miles to dispose of the produced water into its network of 21 salt water disposal (SWD) wells in the region. The company also has five SWD wells near Eagle Ford, Texas, and two SWD wells around the Tuscaloosa Marine Shale area in Louisiana and Mississippi. It also has a handful of SWD permits in other regions. With Power Fuels, Heckmann's main operating regions are in the Haynesville area in East Texas and Louisiana, the Eagle Ford/Eaglebine shale in South Texas, the Bakken region in North Dakota and Montana, and the Marcellus/Utica region in Western Pennsylvania and Northeast Ohio. The company also has operations in other shale plays including Tuscaloosa and the Permian basin and Barnett regions in Texas. With persistently low natural gas prices, profitability in the dry gas Haynesville region declined and the company mobilized resources away from that area during the past year and continued to move into more-profitable oil and wet gas-producing regions in Eagle Ford and Marcellus. Despite incurring $4 million of charges in connection with this redeployment, profitability remains good, with trailing-12-month EBITDA margins of 18% at Sept. 30, 2012. Power Fuels' profitability is very good, with EBITDA margins of over 40% in 2012. We believe this will improve Heckmann's adjusted EBITDA margin to roughly 28% in 2013. Our 2013 performance expectations for Heckmann include: -- Sales growth of over 100%, reflecting its proposed acquisition of Power Fuels and the full-year effect of acquisitions made in 2012, as well as organic growth arising from expansion into faster growing liquids and oil rich shale regions; -- Consolidated EBITDA margins of 28%, largely on the factors listed above; and -- Adjusted EBITDA of $224 million. We characterize Heckmann's financial risk profile as "aggressive." Despite its public ownership, Heckmann is still a relatively new and growing company without an established track record of prudent financial policies. Because the hydraulic fracturing industry is in a high-growth stage, the company has funded large capital expenditures to build the infrastructure necessary to capitalize on this trend. We still anticipate high capital expenditures during the next year, though these expenditures are largely discretionary and should ease over time. In addition, we expect the company to engage in tuck-in acquisitions from time to time, which could involve additional borrowings. For the current rating, we expect funds from operations (FFO)-to-debt of roughly 20%. Pro forma for the 2012 acquisitions, we expect this figure to increase to the target expected for the rating. Pro forma for the Power Fuels acquisition, Heckmann owns and operates 47 SWD wells that are not required to be capped. As such, the company carries no asset retirement obligations on its financial statements and does not have any liabilities related to environmental remediation. Liquidity We view Heckmann's liquidity as "adequate." In conjunction with the add-on offering of its notes, the company amended its revolving credit facility and upsized the facility to $325 million. We expect the company to have over $175 million of availability under the unrated revolving credit facility due 2017, net of $146 million of borrowings, and $1 million of letters of credit. The terms of the amendment also include a $10 million upsize to the letter of credit sublimit to $20 million from $10 million, and a $15 million upsize to the swingline to $30 million from $15 million. Most financial covenants will remain the same, and the minimum interest coverage ratio and maximum senior leverage ratio will stay at 2.75x and 2.50x, respectively. Regarding the maximum total leverage ratio, this remains 4.50x as of Sept. 30, 2012, and 4.0x as of Dec. 31, 2012; however, the last step-change eases slightly, to 3.75x as of June 30, 2014, from 3.50x as of March 31, 2013. Based on our scenario forecasts, we expect the company to be able to maintain sufficient headroom over the next year. Our liquidity assessment incorporates the following assumptions and observations: -- We anticipate $15 million to $20 million of revolver usage for working capital needs, with most of the usage occurring in the summer because of seasonality in the water transportation and oil recycling businesses; -- Capital expenditures of roughly $125 million in 2013, roughly two-thirds for maintenance-related capital spending and about one-third for growth; -- We expect sources of liquidity to exceed uses by 1.2x over the next 12 months; -- We expect that net sources would be positive, even with a 20% drop in EBITDA; and -- Debt maturities are benign, with the earliest meaningful maturity in 2017. Recovery analysis Heckmann's senior unsecured notes are rated 'B' with recovery ratings of '5'. The '5' recovery rating implies our expectation of modest (10%-30%) recovery in the event of a payment default. For the complete recovery analysis, see our recovery report on Heckmann, published on RatingsDirect. Outlook The stable outlook on Heckmann reflects our expectation that hydraulic fracturing activity in the various shale basins in which the company operates will remain satisfactory to support solid sales and profitability over the next year, and that the company will integrate the acquisition of Power Fuels without any major difficulties. Our base-case reflects our view that, over the next year, Heckmann will be able to maintain adjusted EBITDA margins of about 28% and with FFO-to-debt of 24%. We could raise the ratings modestly if the company establishes and maintains a track record of reliable operating performance and its business prospects remain robust. Another important factor in our consideration of a higher rating is whether Heckmann maintains adequate liquidity despite high capital spending and seasonal working capital-related borrowings. We could lower the ratings if downside risks to our forecast materialize, such as greater-than-expected debt incurrence to fund acquisitions, unfavorable economic trends that reduce the profitability of hydraulic fracturing, environmental-related regulations that curtail drilling activity and investments, a disruption in water pipelines, other operating problems that could constrain liquidity, or significant debt incurrence to fund a shareholder distribution. Based on our scenario forecasts, we could take a negative rating action if the company's sales growth in 2013 does not meet expectations and its EBITDA margins decrease to 20%. If this happens, Heckmann's FFO-to-total adjusted debt would likely fall to about 15%. Related Criteria And Research -- Heckmann Corp. Ratings Placed On Watch Developing On Plans To Acquire Power Fuels, Sept. 4, 2012 -- Methodology And Assumptions: Liquidity Descriptors For Global Corporate Issuers, Sept. 28, 2011 -- Criteria Methodology: Business Risk/Financial Risk Matrix Expanded, Sept. 18, 2012 Ratings List Ratings Affirmed Heckmann Corp. Corporate Credit Rating B+/Stable/-- Rating Raised To From Heckmann Corp. Senior Unsecured B B-/Watch Pos Recovery Rating 5 6 Rating Withdrawn To From Rough Rider Escrow Inc. Senior Unsecured Local Currency NR B Recovery Rating NR 5 Temporary Contact Information: James Siahaan (347-213-1346)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.
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