Aug 30 -
Summary analysis -- Valassis Communications Inc. ------------------ 30-Aug-2012
CREDIT RATING: BB-/Stable/-- Country: United States
Primary SIC: Newspapers
Mult. CUSIP6: 918866
Mult. CUSIP6: 91886R
Credit Rating History:
Local currency Foreign currency
03-May-2010 BB-/-- BB-/--
30-Oct-2009 B+/-- B+/--
15-Jan-2009 B/-- B/--
Standard & Poor's Ratings Services' rating on Livonia, Mich.-based Valassis Communications Inc. incorporates our expectation that leverage will remain in the low 2.0x area over the next 12 months. We assess Valassis' business risk profile as "weak," according to our criteria, acknowledging a high level of volatility in shared mail profitability, competitive pressures in the freestanding insert (FSI) and shared mail markets, a low EBITDA margin, and a narrow business focus. We view the company's financial risk profile as "significant," based on historical volatility in leverage and discretionary cash flow generation.
The shared mail division generated roughly 60% of revenue in 2011, and is subject to uncertainty regarding the long-term prospects for the direct mail business. The industry faces increasing pressures from various online advertising channels. We believe the long-term competitive dynamics of the direct mail industry will remain difficult. FSIs (about 10% of revenue) are a mature business, competing increasingly with online advertising, and are subject to unfavorable trends in the newspaper business. Despite being essentially a duopoly, the FSI sector is subject to keen ad pricing competition.
Valassis' overall business was somewhat recession-resistant,l but recent operating trends indicate the current weakness and budgetary pressures on consumer packaged goods companies could persist. Based on our U.S. economic forecast of roughly 2% GDP growth in 2012 and 2013), and ongoing strong digital competition, we expect a continuation of packaged goods companies' budget restraint. Our 2012 base-case assumptions include flat- to low-single-digit percentage revenue and EBITDA declines, respectively. In 2013 we expect weakness could persist, resulting in flat- to low-single-digit percentage revenue and EBITDA declines. We expect the EBITDA margin to exhibit a slight decline from current levels over the next 12 months.
Second-fiscal-quarter operating performance was broadly in line with our expectations, as reduced spending of consumer packaged goods companies affected resulted in a 4.4% revenue decline, and a 6% EBITDA decline. Declines were driven by softness in the neighborhood targeted segment because of declines in newspaper inserts and the loss of a key client in FSI segment, partly offset by modest increases in the shared mail segment stemming from an increase in volumes.
Lease-adjusted debt to EBITDA rose to 2.4x for the 12 months ended June 30, 2012, from 2.2x for the same period last year from EBITDA declines. Leverage is lower than the ratio we associate with significant financial risk, based on risks of long-term decline in revenue and cash flow. EBITDA coverage of cash interest expanded to 8.3x for the 12 months ended June 30, 2012, up from 5.8x for the same period last year, primarily as a result of lower interest expense on a refinancing. Without a leveraging transaction, we believe operating conditions will result in leverage in the mid- 2.0x area and interest coverage above 8x for the remainder of 2012. We expect credit measures to remain relatively flat from those in 2013 on broad economic uncertainty and the potential for advertisers to be hesitant in spending. The company's conversion of EBITDA to discounted cash flow was 55% up from the same period last year. We expect conversion to remain in the 50% range over the near term.
Valassis has adequate sources of liquidity to more than cover its needs over the next 12 to 18 months, even in the event of moderate unforeseen EBITDA declines. Expectations and assumptions that support our liquidity assessment include:
-- We expect sources of liquidity (including cash and availability under the revolving credit facility) over the next 12 to 18 months to exceed uses by 1.2x or more.
-- We expect net sources of liquidity to be positive even if EBITDA drops 15% to 20% or more over the next 12 months. Debt maturities over the next 12 months are minimal.
-- We estimate the company would continue to maintain an adequate cushion of compliance with its financial covenants even with a 15%-20% decrease in EBITDA.
-- Valassis has a generally satisfactory standing in credit markets.
Liquidity is provided by $75.2 million of cash on hand and $40.1 million of availability as of June 30,2012 (net of $9.9 million of outstanding letters of credit) on Valassis' $100 million revolving line of credit due 2016. We expect discretionary cash flow of between $125 million and $150 million in 2012 and on the lower end of this range in 2013, aided by Moderate capital spending and working capital needs. Valassis has limited maturities over the near term. Based on management's public statements, we assume that the company will likely use nearly one-half of expected discretionary cash flow for share repurchases or acquisitions over the next twelve months. The company has used $215 million for repurchases in 2011 and 65.9 to date in 2012.
Our stable rating outlook on Valassis reflects its adequate liquidity position and our expectation that operating trends will remain soft the near term. We believe it will maintain leverage in the low-2x area in 2012 and 2013. An upgrade would require a reversal of weak operating trends in the last several quarters and an abatement of pressure from digital alternatives, both of which we regard as unlikely over at least the near term. Any increase in our ratings would require an improvement in balance-sheet management. While not expected, we could lower our rating if we see worsening operating trends, along with a more aggressive financial policy, resulting in marked contraction of revenue and the EBITDA margin, a significant increase in leverage, and a reduction of liquidity.
Related Criteria And Research
-- Methodology And Assumptions: Liquidity Descriptors For Global Corporate Issuers, Sept. 28, 2011
-- Criteria Guidelines For Recovery Ratings, Aug. 10, 2009
-- Business Risk/Financial Risk Matrix Expanded, May 27, 2009
-- 2008 Corporate Criteria: Analytical Methodology, April 15, 2008