Fitch Affirms Owens & Minor's Ratings at 'BBB-'; Outlook Stable

Wed Apr 10, 2013 11:48am EDT

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(The following statement was released by the rating agency) CHICAGO, April 10 (Fitch) Fitch Ratings has affirmed the ratings of Owens & Minor, Inc. (OMI) at 'BBB-'. The Rating Outlook is Stable. A full list of rating actions follows at the end of this release. KEY RATING DRIVERS --OMI holds a strong share of the steady and oligopolistic acute care medical-surgical (med-surg) products distribution market. Fitch believes OMI is well-positioned to maintain and/or grow market share in light of hospital consolidation and physician employment trends in the U.S. --Revenue growth is being constrained by low price inflation and continued sell-side margin pressure. Fitch forecasts fairly flat EBITDA on low-single digit revenue growth (mostly from Movianto) in 2013. Some modest volume benefit is expected in 2014 due to the anticipated increase in the number of insured individuals in the U.S., but pricing pressure will persist. --Cash flows are consistent and sufficient to fund OMI's elevated capex plans and dividend. Fitch forecasts funds from operations (FFO) to be $160-$200 million per year over the ratings horizon. Liquidity is solid. --A very low debt balance provides the company ample flexibility at its current ratings. Debt leverage (total debt/EBITDA) is expected to be sustained at or below 0.8x over the ratings horizon. FFO adjusted leverage is forecasted to trend near 3.0x. --Ratings are constrained by management's stated willingness to materially increase debt leverage for M&A. OMI's history of relatively conservative financial management, combined with the limited number of sizeable deals currently available, mitigate this risk somewhat. --Though still in the early stages of growing its 3PL business, including the integration of the 2012 purchase of Movianto, Fitch believes the 3PL business provides an important strategic opportunity for growth and improved positioning with its manufacturer customers/suppliers. RATING SENSITIVITIES A low debt balance, consistent and sufficient cash flows and a good liquidity profile afford OMI ample headroom at its current 'BBB-' ratings. Maintenance of OMI's current 'BBB-' rating will require debt leverage generally maintained at or below 2.5x with funds from operations (FFO) of at least $120 million. The company's target leverage is 2.0x, which is in line with the criteria for its 'BBB-' ratings. M&A that caused leverage to increase to 3.0x-3.5x, in line with OMI's core competencies, could be appropriate at the current 'BBB-' ratings if Fitch expected debt leverage to return to 2.5x or lower within 12-18 months. A downgrade could result from a transformational acquisition that did not fit these criteria. OMI's current credit metrics and stable performance could support positive ratings momentum over the ratings horizon, though margin declines and modestly pressured core cash flows in 2011 and 2012 pressure the ratings somewhat. An upgrade may also necessitate a tighter leverage commitment from the company's management. Fitch believes the current 'BBB-' ratings provide the company flexibility to consummate appropriate and targeted M&A. Fitch further expects that OMI would reduce debt in a timely manner if it were to make a large, leveraging transaction, consistent with the company's history. STRONG MARKET SHARE, STABLE OPERATIONS OMI continues to exhibit solid operations despite overarching pressures on healthcare utilization and pricing. EBITDA margins have remained fairly steady despite persistently weak hospital volumes and surgery procedures. Some margin pressure has become evident in 2011 and 2012, with year-over-year Fitch-calculated EBITDA margin declines of 14 bps in both 2012 and 2011. Fitch expects these declines to moderate in 2013 and begin to show modest improvement in 2014 and beyond due to incremental volumes from expanded insurance coverage and a growing 3PL business. Profit margins may also be aided in the near-to-intermediate term by an increased focus on the sourcing and distribution of private label products and increased penetration of hospital-acquired physician practices and other customers requiring low-unit-of-measure (LUM) distribution. OMI's in-process IT overhaul is also expected to positively affect profitability in the next couple of years. In general, Fitch believes OMI's strategy of achieving growth with large and growing integrated delivery networks (IDNs) is sound and will position OMI to benefit from overall healthcare consolidation trends now underway in the U.S. and abroad. This strategy is likely to result in slightly lower margins on its base distribution services to these larger customers. However, it also gives OMI the opportunity to sell other value-adding services, including LUM distribution, and to increase the overall volume of product through its largely fixed cost operations. TOP-LINE PRESSURE FROM FLAT VOLUMES, LOW PRICE INFLATION, SELL-SIDE MARGIN PRESSURE Organic top-line growth in OMI's base distribution business remains soft, largely due to continued weak healthcare utilization, low product price inflation, and sell-side margin pressure discussed above. Fitch expects these trends to continue in 2013, leading to organic top-line growth of approximately 1-2%, reflective only of low price inflation. Overall revenue growth, inclusive of Movianto, is expected to be 3-4%. Material upside to these forecasts could come from new customer wins or better-than-expected penetration of value-adding services to existing customers during the year. Some incremental volumes are expected to aid revenues in 2014, but such benefit will likely be modest. CONSISTENT CASH FLOWS, GOOD LIQUIDITY Aided by very good working capital management, Fitch expects OMI to generate cash from operations sufficient to fund its elevated capital expenditures and its dividend. Fitch expects FFO to approximate $160 million in 2013 and 2014. Cash flows have been under some modest pressure in 2011 and 2012 due to the trends cited above. FFO was approximately $160 million in both 2011 and 2012. Given OMI's commitment to its dividend ($56 million in 2012) and the expectation for increased capex in 2013 ($50 million forecasted for 2013), Fitch believes that FFO of at least $120 million is necessary to support the current 'BBB-' ratings. OMI's liquidity profile is solid, consisting of $98 million of cash on hand at Dec. 31, 2012 - even after consummating the $157 million Movianto acquisition - and an undrawn $350 million unsecured revolver due June 2017. Debt maturities are very manageable, with only one $200 million issuance due in 2016. AMPLE FLEXIBILITY AT CURRENT RATINGS A very low debt balance, solid and steady cash flows, and a good liquidity profile provide OMI ample flexibility at its 'BBB-' ratings. Financial metrics, including debt leverage of 0.8x at Dec. 31, 2012, could imply a rating higher than OMI's current ratings. OMI's stable operations and the steady and oligopolistic nature of healthcare distribution could also support higher ratings. Fitch notes that adjusted leverage metrics are more indicative of the current 'BBB-' ratings, as FFO adjusted leverage has trended up to 3.0x at Dec. 31, 2012 from 2.6x at Dec. 31, 2009. Somewhat strained profit margins and the expectation for continued tepid industry trends, leading to soft top-line growth, also constrict positive ratings momentum for now. Fitch believes OMI's 'BBB-' ratings provide flexibility for the company to consummate sizeable targeted M&A over the ratings horizon. The 'BBB-' ratings could sustain debt leverage up to 3.5x, so long as it was anticipated that this figure would moderate to 2.5x or lower within 12-18 months. OMI has evidenced its commitment to rapidly repaying debt after large M&A deals in the past, and Fitch would expect this commitment to be maintained. Fitch has affirmed the ratings of OMI as follows: --Issuer default rating at 'BBB-'; --Senior unsecured bank facility at 'BBB-'; --Senior unsecured notes at 'BBB-'. The Rating Outlook is Stable. Contact: Primary Analyst Jacob Bostwick, CPA Associate Director +1-312-368-3169 Fitch Ratings, Inc. 70 W Madison St. Chicago, IL 60602 Secondary Analyst Bob Kirby, CFA Director +1-312-368-3147 Committee Chairperson Megan Neuburger Senior Director +1-212-908-0501 Media Relations: Brian Bertsch, New York, Tel: +1 212-908-0549, Email: brian.bertsch@fitchratings.com. Additional information is available at 'www.fitchratings.com'. The ratings above were solicited by, or on behalf of, the issuer, and therefore, Fitch has been compensated for the provision of the ratings. Applicable Criteria and Related Research: --'Corporate Rating Methodology', Aug. 8, 2012; --'Navigating the Drug Channel - The ABCs (and Ds) of Drug Pricing', July 25, 2012; --'U.S. Healthcare Stats Quarterly - Third Quarter 2012', Jan. 8, 2013. Applicable Criteria and Related Research Corporate Rating Methodology here Navigating the Drug Channel -- The ABCs (and Ds) of Drug Pricing here U.S. Healthcare Stats Quarterly — Third-Quarter 2012 here ALL FITCH CREDIT RATINGS ARE SUBJECT TO CERTAIN LIMITATIONS AND DISCLAIMERS. PLEASE READ THESE LIMITATIONS AND DISCLAIMERS BY FOLLOWING THIS LINK: here. IN ADDITION, RATING DEFINITIONS AND THE TERMS OF USE OF SUCH RATINGS ARE AVAILABLE ON THE AGENCY'S PUBLIC WEBSITE 'WWW.FITCHRATINGS.COM'. PUBLISHED RATINGS, CRITERIA AND METHODOLOGIES ARE AVAILABLE FROM THIS SITE AT ALL TIMES. FITCH'S CODE OF CONDUCT, CONFIDENTIALITY, CONFLICTS OF INTEREST, AFFILIATE FIREWALL, COMPLIANCE AND OTHER RELEVANT POLICIES AND PROCEDURES ARE ALSO AVAILABLE FROM THE 'CODE OF CONDUCT' SECTION OF THIS SITE. FITCH MAY HAVE PROVIDED ANOTHER PERMISSIBLE SERVICE TO THE RATED ENTITY OR ITS RELATED THIRD PARTIES. DETAILS OF THIS SERVICE FOR RATINGS FOR WHICH THE LEAD ANALYST IS BASED IN AN EU-REGISTERED ENTITY CAN BE FOUND ON THE ENTITY SUMMARY PAGE FOR THIS ISSUER ON THE FITCH WEBSITE.

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