TEXT-S&P assigns Zachry Holdings preliminary 'BB-' rating

Fri Jan 11, 2013 4:44pm EST

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Overview
     -- San Antonio, Texas-based privately held Zachry Holdings Inc. plans to 
issue $250 million senior unsecured notes to refinance an existing term loan, 
which it used to partly finance an acquisition in 2012.  
     -- We are assigning our preliminary 'BB-' corporate credit rating to the 
company and our preliminary 'B+' issue rating to the company's proposed $250 
million senior unsecured notes.
     -- The stable outlook reflects our expectation for positive free 
operating cash flow generation in 2013 based upon slow ongoing recovery in the 
company's end markets. 

Rating Action
On Jan. 11, 2013, Standard & Poor's Ratings Services assigned its preliminary 
'BB-' corporate credit rating to Zachry Holdings Inc. At the same time, we 
also assigned our preliminary 'B+' issue rating and '5' recovery rating 
(indicating our expectation of modestrecovery in the event of 
payment default) to Zachry Holdings Inc.'s proposed $250 million senior 
unsecured notes due 2020.

All ratings are subject to a review of final documentation.

Rationale
The ratings on Zachry reflect our view of the company's "weak" business risk 
profile and "significant" financial risk profile. The stable outlook indicates 
our expectation for sustained mid-single-digit EBITDA margins on recovering 
demand in its end markets from the downturn in 2009 and 2010. Our financial 
risk assessment reflects leverage expectations of leverage below 3x and 
positive free cash flow generation prospects in 2013. The proposed refinancing 
extends the maturity on its existing debt. The business risk profile 
assessment reflects the company's exposure to cyclical end-markets amid 
competitive bidding.

The company provides engineering, procurement, and construction (EPC), and 
maintenance and turnaround services in the U.S. to the domestic energy and 
industrial infrastructure end markets, including refining, petrochemicals, 
power generation, and other related energy sectors. Through the September 2012 
acquisition of JV Industrial Companies Ltd. (JVIC), Zachry has added to its 
maintenance and turnaround business. After being deferred during the economic 
downturn, EPC projects, as well as maintenance and plant turnaround activity, 
are slowly picking up across the company's end markets. Still, the company 
remains exposed to some pricing pressure given the presence of a number of 
regional, national and international competitors. 

The ratings incorporate the inherent cyclicality of the engineering and 
construction services sector in which Zachry participates. We believe other 
risks include the competitive nature of the industry and the potential for 
cost overruns in the execution of fixed-price contracts. As of Sept. 30, 2012, 
a little more than half of the company's revenues were from cost reimbursable 
contracts with the remainder from contracts that are primarily fixed-price. 

We believe the company's long-term operating performance could benefit from 
fundamentals supporting increased activity in some of Zachry's end markets. 
Additionally, with more than 15,000 employees, Zachry is one of the largest 
direct-hire EPC and industrial service companies in the U.S. The company 
estimates that they self-perform more than 90% of the labor scope of 
construction projects, including all of the major crafts (civil, structural, 
mechanical, piping, insulation, electrical, instrumentation, and controls), 
giving the company the ability to directly control the majority of the on-site 
craft labor work force and thereby reduce interface inefficiency costs and 
duplication of overhead costs, which may occur in a subcontract construction 
approach. Therefore, we view this as a competitive advantage for Zachry.

The company's backlog was $2.7 billion as of Sept. 30, 2012 (pro forma for the 
JVIC acquisition), up significantly from $1.8 billion at year-end 2011. Its 
adjusted EBITDA margins remain in the mid-single-digit area as of Sept. 30, 
2012. The cyclical nature of the company's end markets and thin margins can 
significantly erode operating results during a downturn.

In our base case, we estimate leverage (including our adjustments, mainly for 
operating leases and postretirement obligations) at less than 3x in 2013, with 
funds from operations (FFO) to debt of more than 20%.recovery in the event of payment default).

Outlook
The stable outlook reflects our expectation for positive free cash flow in 
2013 based upon slow ongoing recovery in the company's end markets. We could 
lower the ratings if a shortfall in operating performance (arising from 
unexpected weakness in end-market demand) dampens profit margins, leading to 
significantly lower-than-expected free cash flow generation. A downgrade is 
also likely to occur if credit protection measures deteriorate--for instance, 
if we expect adjusted leverage persistently above 3.5x. We could consider 
raising the rating if we expect the company to maintain leverage of less than 
2.5x with consistent free cash flow over the business cycle, and if we expect 
the company to pursue financial policies consistent with a higher rating. 

Related Criteria And Research
     -- 2008 Corporate Criteria: Analytical Methodology, April 15, 2008


Ratings List
New Ratings; Outlook Stable

Zachry Holdings Inc.
 Corporate Credit Rating                BB-(prelim)/Stable/--      
 Senior Unsecured                       B+(prelim)                 
  Recovery Rating                       5(prelim)                  

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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