December 6, 2012 / 4:35 PM / 5 years ago

TEXT - S&P rates Media Holdco

Overview
     -- Media Holdco L.P., majority owner of U.S. television broadcaster ION 
Media Networks, is issuing a $255 million term loan to fund the buyout of two 
of its existing investors.
     -- ION Media Networks is putting in place a $50 million revolving credit 
facility for general corporate purposes.
     -- We are assigning the company our 'B+' preliminary corporate credit 
rating. We are assigning the revolving credit facility our 'BB' preliminary 
issue-level rating with a '1' preliminary recovery rating. We are assigning 
the term loan B our 'BB-' preliminary issue-level rating with a '2' 
preliminary recovery rating. 
     -- The stable outlook reflects our expectation that leverage will remain 
in the 2x-3x range over the next couple years and liquidity will remain 
adequate.
 
Rating Action
On Dec. 6, 2012, Standard & Poor's Ratings Services assigned Media Holdco 
L.P., the majority owner of ION Media Networks Inc., its 'B+' preliminary 
corporate credit rating. We rate the two entities on a consolidated basis. The 
outlook is stable.

In addition, we assigned the $50 million five-year revolving credit facility 
issued by ION Media Networks our 'BB' preliminary issue-level rating, with a 
'1' preliminary recovery rating (two notches higher than the 'B+' corporate 
credit rating), indicating our expectation for very high (90% to 100%) 
recovery for lenders in the event of a payment default. The revolving credit 
facility will be used for general corporate purposes and is expected to be 
undrawn at the time of closing.

We also assigned Media Holdco's $255 million 5.5-year term loan B our 'BB-' 
preliminary issue-level rating, with a '2' preliminary recovery rating (one 
notch higher than the 'B+' corporate credit rating), indicating our 
expectation for substantial (70% to 90%) recovery in the event of a payment 
default. The proceeds from the term loan will be used to buy out two of the 
three owners of Media Holdco L.P. Following the transaction, Black Diamond 
Capital Management will be the sole owner of Media Holdco, which currently 
owns 87% of ION Media Networks.

Rationale
The 'B+' preliminary rating on Media Holdco reflects our view of ION 
Television's modest ratings, minimal original programming, and above-average 
use of infomercials. These factors underpin our view of the business profile 
as "weak." We regard the company's financial risk profile as "aggressive" due 
to its private-equity ownership and modest leverage. Pro forma for the 
transaction, lease-adjusted debt to EBITDA is 2.7x (2.1x on an unadjusted 
basis) and lease-adjusted EBITDA coverage of interest is 5.6x (we do not add 
back to EBITDA stock compensation that is only payable in cash). Pro forma 
EBITDA coverage of cash interest is 8.6x. We view the company's management and 
governance as "fair."

ION Media owns and operates 60 TV broadcast stations, including stations in 
all of the top 20 markets in the U.S. The company's flagship network, ION 
Television, has extensive reach, covering 100 million homes. ION Television 
must be carried by cable and satellite providers in markets where ION has a TV 
station, and carriers have often chosen to carry it in markets where it does 
not have a station. In the past, the company generated the majority of its 
revenue from infomercials. Over the last couple years, the company has 
increased the amount of programming it airs, and now programs around 16 hours 
per day. Programming consists mainly of off-network and off-cable shows, often 
in their second run, and original programming is limited. The company has been 
successful in raising advertising rates but we believe it will be difficult to 
continue do so. ION Television is also vulnerable to ongoing ratings erosion 
affecting broadcasting and cable networks. We view the lack of original 
programming as an obstacle to generating subscription fees and growing 
advertising rates.

As the company has shifted away from infomercials, it has made increasingly 
large programming commitments that span three-to-four years. The company has 
attempted to maintain flexibility by limiting the number of episodes it buys 
up front and including options to buy additional episodes or seasons at a 
later date. Nevertheless, we view the increase in programming commitments as 
risk since a drop in viewership levels and ad rates would significantly impact 
margins.

Under our base case for 2013, we expect revenue to grow at a low- to 
mid-single-digit percent rate as the company adds additional hours of 
programming. We expect EBITDA to fall 8% to 10% due to higher programming 
expenses. Any softening of ad demand could weaken both the revenue and EBITDA 
outlook. We expect that lease-adjusted leverage will increase slightly in 
2013, due to lower EBITDA. Interest coverage should remain in the mid-5x area.

In the third quarter of 2012, revenue grew 4.9% and EBITDA increased 13.3% as 
growth in advertising revenue offset a decline in infomercial revenue. The 
improvement in EBITDA was due to higher revenue and lower station operating 
expenses. For the 12 months ended Sept. 30, 2012, the EBITDA margin was 35.9%, 
down from 38% for the full-year 2011 due to higher programming expenses as the 
company shifts its business model more toward entertainment programming versus 
infomercials. 

As the company shifts away from infomercials, the funding of programming uses 
cash and thus, working capital usage. During the 12 months ended Sept. 30, 
2012, ION spent roughly 18% of EBITDA on capital expenditures. During the same 
period, the company converted 70% of EBITDA to discretionary cash flow 
(discretionary cash flow is negative when including a special dividend payment 
in the third quarter of 2012). In 2013, we expect conversion of EBITDA to 
discretionary cash flow to fall to 30% to 40% due to increased interest 
expense.

Liquidity
We believe ION Media has "adequate" liquidity (per our criteria) to cover 
needs over the next 12 to 18 months. Our assessment of its liquidity profile 
incorporates the following expectations and assumptions:
     -- We expect the company's sources to be sufficient to cover uses for the 
next 12 to 18 months by 1.2x or more.
     -- We expect net sources to be positive even with a 15% to 20% drop in 
EBITDA over the next 12 months.
     -- The company has the capacity to absorb high-impact, low-probability 
events over the next 12 months.
     -- We expect that the company would be able to maintain compliance with 
its new credit facility covenants, even with a 15% to 20% decrease in EBITDA. 
 
ION derives liquidity from pro forma cash balances of around $50 million, full 
availability under its $50 million undrawn revolving credit facility, and 
expected $30 million to $50 million in discretionary cash flow.

Uses of liquidity include capital expenditures of $20 million to $25 million 
per year. As the company transitions away from infomercials, working capital 
is a use of cash since the company typically receives payment for infomercials 
upfront, and pays for entertainment programming in advance of airing it. The 
company must also pay dividends to minority owners concurrent with dividends 
distributed to Media Holdco to fund interest and principal payments. 
Currently, the minority owners own 13% of ION Media Networks. There are 
warrants that could be exercised to reduce Media Holdco's ownership to 78% (on 
a fully diluted basis) from 87%. Debt maturities are modest as the term loan 
amortizes at 1% annually.

We expect there will be an interest coverage covenant and a total leverage 
covenant. We have assumed that the interest coverage covenant will be set at 
3x for the life of the term loan. The total leverage covenant is expected to 
start at 3x, then step down to 2.75x in 2015, 2.5x in 2016, and 2.25x in 2017. 
We expect the total leverage covenant will be the tighter of the two, and that 
headroom will be over 35%.

Recovery analysis
For the complete recovery analysis, please see our recovery report on Media 
Holdco, to be published on RatingsDirect following this release.

Outlook
The stable outlook is based on our expectation that the company will continue 
to generate positive discretionary cash flow, keep leverage between 2x and 3x, 
and maintain adequate liquidity and sufficient headroom with covenants.

We could lower the rating if operating performance weakens and EBITDA declines 
significantly, potentially resulting from weak ratings and ad demand, and 
higher-than-expected content costs. We could also lower the rating if leverage 
rises to the mid-3x area, which could be the result of poor performance or 
debt-financed acquisitions.

We could raise the rating if the company is able to successfully continue its 
transition toward more programming hours, improve ratings, maintain EBITDA 
margins, and grow revenues.

Related Criteria And Research
     -- Business Risk/Financial Risk Matrix Expanded, Sept. 18, 2012
     -- Liquidity Descriptors For Global Corporate Issuers, Sept. 28, 2011
     -- Criteria Guidelines For Recovery Ratings, Aug. 10, 2009
     -- 2008 Corporate Criteria: Analytical Methodology, April 15, 2008
     -- 2008 Corporate Criteria: Rating Each Issue, April 15, 2008
     -- 2008 Corporate Criteria: Ratios And Adjustments, April 15, 2008
 
Ratings List

New Rating

Media Holdco, LP
 Corporate Credit Rating        B+ (prelim)/Stable/--
 Senior Secured
  $255M term loan B             BB- (prelim)
   Recovery Rating              2 (prelim)

ION Media Networks Inc.
 Senior Secured
  $50M revolver                 BB (prelim)
   Recovery Rating              1 (prelim)

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