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-- We are revising our outlook on St. Paul, Minn.-based chemical company H.B Fuller Co. to stable from negative.
-- At the same time, we are affirming the 'BBB' corporate credit rating on the company.
-- The stable outlook reflects our expectations for modest earnings growth in 2013 and that management will remain supportive of maintaining credit metrics appropriate for the current rating, including funds from operations (FFO)-to-total debt of 35%. Rating Action On Dec. 13, 2012, Standard & Poor's Ratings Services revised its outlook on H.B. Fuller Co. to stable from negative. At the same time, Standard & Poor's affirmed its 'BBB' corporate credit rating on the company. Rationale The outlook revision reflects our expectations that Fuller will continue to make progress integrating the March 2012 acquisition of Forbo Group and achieving the targeted synergies. We expect that EBITDA and margins over the next two years to improve moderately as Fuller realizes the benefits from its ongoing EIMEA (Europe, India, the Middle East, and Africa) restructuring project, and continues to achieve the expected synergies from the acquisition. In August 2012, the company completed the sale of its Central American paints business for gross proceeds of approximately $120 million. The company used the proceeds to reduce debt, and we believe this reflects management's commitment to restoring its financial profile and improving credit metrics to levels appropriate for the current rating, including FFO-to-total debt of 35%. The ratings on H.B. Fuller Co. reflect the company's leading positions within the large, albeit fragmented, global adhesives and sealants industry, significant geographic diversity of sales and moderate financial policies. However, Fuller's narrow scope of operations, its exposure to cyclical construction end markets, and competitive pressures from large players (Henkel, Bostik, and Dow Chemical) are key risks to its operating performance. Standard & Poor's Ratings Services characterize the company's business risk as "satisfactory" and financial risk as "intermediate". Fuller's market segments include consumer goods (such as specialty packaging, hygiene, and textile lamination), industrial (assembly, converting, window and woodworking), and construction (tile setting). With annual revenues of about $2 billion, the company ranks No. 2 in the $40 billion global adhesives and sealants industry. Given the highly fragmented nature of the industry, we expect that it will continue to experience significant consolidation and larger players such as Fuller will continue to exploit the competitive advantages of scale and global distribution channels. In March 2012, Fuller completed the acquisition of Forbo Group's global industrial adhesives business. The addition of complementary technologies and access to new markets has strengthened Fuller's competitive position. We believe the prospects of a successful integration are high because of Fuller's decision to expand within its core competencies. Key credit strengths include an increased percentage of revenues tied to recession-resistant end markets and a healthy level of geographic diversification (Fuller now derives about 55% of its revenues outside of North America). During the recent recession, the stability in the company's consumer goods end markets--which represent greater than 45% of revenues--helped ease the effect of volume pressure in its construction-related end markets. The acquisition offers meaningful cost synergies, which we think Fuller should be able to continue to capitalize on given its familiarity with Forbo's businesses, experienced management team, and recent track record of pursuing operational efficiencies in EIMEA. Additionally, in recent years, Fuller has managed raw material price volatility more efficiently. We believe that the company will be able to maintain EBITDA margins in the 11% to 13% range over the next one to two years. We expect that stable operating results in the company's consumer products end markets should help offset earnings variability in Fuller's more cyclical segments. Return on capital is expected to remain in the 12% to 14% range. Key underpinnings to the ratings are our belief in the company's cash-generating ability and management's track record of low debt usage and moderate financial policies. Based on our scenario forecasts, we believe that in fiscal 2013, the key ratio of FFO-to-total adjusted debt will improve to about 35%, a level we consider appropriate for the current rating. We expect that share repurchases and acquisitions will be limited over the next year. Our assessment of the company's management and governance is "satisfactory". Liquidity We assess Fuller's liquidity as "strong". As of Sept. 1, 2012, the company had $208 million in cash and full availability under the $200 million unsecured revolving credit facility due in 2017. Satisfactory cash flow generation should continue to support modest dividends and capital expenditures of about $80 million in fiscal 2013. Debt maturities are manageable, with the next meaningful maturity in 2017. Our assessment of the company's liquidity profile includes the following:
-- We expect Fuller's sources of liquidity to exceed its uses by more than 1.5x during the next 12 months and to remain much more than 1.0x thereafter.
-- Net sources and covenant cushions would be positive even with a 30% drop in EBITDA or a 25% increase in debt.
-- The company would likely absorb low-probability shocks, based on positive cash flow from operations and available liquidity.
-- We expect no significant share repurchases because we believe Fuller will direct its discretionary cash flow primarily to debt reduction. Outlook The outlook is stable. The company's ongoing initiatives to improve EBITDA margins, coupled with our expectation for modestly improving end market demand, should support an improvement in operating results over the next two years. We believe that management will focus on integrating the Forbo acquisition, reducing costs in the EIMEA segment and using discretionary cash flow primarily for debt reduction. We expect the company will pursue future shareholder rewards and growth initiatives in a manner that preserves credit quality. We could lower the ratings if the company has difficulty integrating the acquisition and fails to achieve the cost savings it has targeted. We would also consider a modest downgrade if weakening global economic conditions caused operating results to be significantly worse than we expect, without near-term signs of recovery. Based on our downside scenario, we could lower the ratings if EBITDA margins decrease by 200 basis points or more from current levels, along with some weakness in volumes. In this scenario, FFO-to-total adjusted debt would fall to below 30%. We could raise the ratings by one-notch if discretionary cash flow is more robust than projected, allowing the company to reduce debt and improve credit metrics. We could also raise the ratings if the company adheres to financial policies that support a permanent improvement in the financial profile, so that Fuller is able to maintain its FFO-to-total adjusted debt at levels consistently above 45%. Related Criteria And Research
-- Methodology And Assumptions: Liquidity Descriptors For Global Corporate Issuers, Sept. 28, 2011
-- Criteria Methodology: Business Risk/Financial Risk Matrix Expanded, Sept. 18, 2012
-- Key Credit Factors: Business And Financial Risks In The Commodity And Specialty Chemical Industry, Nov. 20, 2008 Ratings List Ratings Affirmed; CreditWatch/Outlook Action
To From Fuller (H.B.) Co. Corporate Credit Rating BBB/Stable/-- BBB/Negative/--