Overview -- One Equity Partners is acquiring U.S. clinical documentation solutions provider MModal Inc. for $1.1 billion. -- We are assigning our preliminary 'B+' corporate credit rating to MModal and preliminary issue and preliminary recovery ratings to its new senior secured and unsecured debt. -- The stable rating outlook reflects our view that the company's highly recurring revenue base and diversified customer base will continue to support consistent and improving revenue generation and profitability. Rating Action On Aug. 6, 2012, Standard & Poor's Ratings Services assigned its preliminary 'B+' corporate credit rating to Franklin, Tenn.-based MModal Inc. The outlook is stable. We also assigned a preliminary 'BB-' issue-level ratings and preliminary '2' recovery ratings to MModal's proposed $515 million senior secured credit facilities, which consist of a $75 million revolving credit facility due 2017 and a $440 million term loan due 2019. The preliminary '2' recovery rating indicates our expectations for substantial (70%-90%) recovery in the event of payment default. Additionally, we assigned a preliminary 'B-' issue-level rating and a preliminary '6' recovery rating to the company's proposed $250 million senior unsecured notes due 2020. The preliminary '6' recovery rating indicates our expectations for negligible (0%-10%) recovery in the event of payment default. MModal intends to use the debt proceeds, along with $447 million of equity contribution of One Equity Partners, to repay existing debt and to fund the leveraged buyout of the company. Rationale The ratings on MModal reflect our view that an aggressive financial profile following its LBO is partly offset by an increasing adoption of technology for clinical documentation, a recurring revenue base, high renewal rates, and a diversified customer base. We view MModal's business risk profile as "weak" as it has a narrow focus on the generally fragmented U.S. clinical documentation industry, which includes a more diversified director competitor with greater financial resources. We view the company's financial risk profile as "aggressive," with pro forma adjusted debt-to-EBITDA at 5.3x at closing of the LBO transaction, which is likely to decline to about 5x in the near term. MModal is a leading provider of clinical narrative capture services, speech and natural language understanding technology, and clinical documentation workflow solutions to the U.S. health care industry. MModal competes in the outsourced transcription market, which accounted for about 35% of the $11.8 billion U.S. clinical documentation industry in 2011. We expect the outsourced transcription market is expected to experience high-single-digit percentage annual growth rate through 2014, as the medical industry is experiencing significant cost pressures and outsourcing of the medical transcription service allows health care providers to capture some cost savings. Additional tailwind for the outsourced medical transcription market includes regulatory requirements incentivizing the adoption of electronic health records (EHRs) for the improvement of documentation efficiency, necessitating quick turns of medical transcription services that cannot be efficiently provided in-house. MModal, equipped with automated speech recognition (ASR) technology, could help address the growing needs of health care providers to help them become more efficient operators. Despite the positive industry trends, we view MModal's business risk profile as weak, reflecting a leading but still moderate position in the fragmented U.S. outsourced medical transcription market and its narrow focus. The company also competes with Nuance Communications, a larger company with a more diversified business profile and greater financial resources. Through internal growth and successful acquisitions, MModal was able to grow its revenues to $450 million in the 12 months ended March 31, 2012, from $354 million in 2009. Its installed customer base is large, including approximately 3,850 hospitals and clinics; about 850 physician practices; and about 200,000 physicians and leading EHR application providers and medical transcription organization. Customer concentration risk is relatively low as no customer represents more than 6.8% of total revenues and the top 10 customers represent about 24% of total revenues in 2011. The company's revenue base is highly recurring given its 97% client retention rate and fairly stable volumes, providing revenue visibility. Adjusted EBITDA margin grew to the mid-20% area in the 12 months ended March 31, 2012, from the mid-teens in 2009, as technological automation, especially ASR, and a rise in offshore capabilities have substantially decreased the cost of production. We expect revenue growth for MModal in line with the expected high-single-digit growth for the U.S. outsourced transcription market. We also expect EBITDA margins to improve to the mid- to high-20% over the next two years, as more of their process uses technology and offshore capabilities. MModal will have an aggressive financial profile following the transaction, with pro forma adjusted leverage of 5.3x at close. We expect continued revenue growth and EBITDA margin improvements, leading to adjusted leverage to the 5x area over the next year. The company has positive operating cash flow characteristics, despite the majority of its cash collection occurring after services are provided. Capital expenditures requirements are low and we expect free operating cash flow (FOCF) of around 6% of total adjusted debt. Liquidity We view MModal's liquidity as "adequate," with sources of cash likely to exceed uses for the next 12 to 24 months. Cash sources include cash balances at close of about $16 million, but full availability under the $75 million revolving credit facility and positive FOCF generation provide additional liquidity. Cash uses include annual capital spending of about 5% of total revenues, investment in working capital, and minimal annual debt amortization payments on the company's term loan. Additional relevant factors of MModal's liquidity, in our view, are as follows: -- We expect sources of liquidity will cover uses by 1.2x or more and that net sources would be positive, even with a 20% drop in EBITDA; and -- We expect the senior secured credit facility to contain a minimum of 30% EBITDA cushion on its total net leverage financial maintenance covenant at close. Outlook The outlook is stable, reflecting our view that the company's highly recurring revenue base and diversified customer base will continue to support consistent and improving revenue generation and profitability, leading to modest leverage declines over the near term. An ownership structure that we believe precludes material and sustained reduction in debt currently limits the potential for an upgrade. We could lower the rating if competitive pressure intensifies, leading to significantly lower-than-expected revenue growth or a deterioration in EBITDA margins, and leverage increasing to and sustained at the mid-5x level. Related Criteria And Research -- Industry Economic Outlook: Despite Economic Headwinds, Global Technology Shows Balanced Ratings Trend, July 9, 2012 -- Issuer Ranking: Global Technology Ratings, Strongest To Weakest, June 29, 2012 -- Performance For U.S. Semiconductor Equipment Makers Has Been Volatile, But Ratings Remain Stable, June 11, 2012 -- Top 10 Investor Questions: How Will The Global Technology Industry Fare Amid An Economy In Flux?, April 26, 2012 -- Liquidity Descriptors For Global Corporate Issuers, Sept. 28, 2011 -- Key Credit Factors: Methodology And Assumptions On Risks In The Global High Technology Industry, Oct. 15, 2009 -- Criteria Methodology: Business Risk/Financial Risk Matrix Expanded, May 27, 2009 -- 2008 Corporate Criteria: Analytical Methodology, April 15, 2008 Ratings List New Rating MModal, Inc Corporate Credit Rating B+(prelim)/Stable/-- Senior Secured $75 mil revolving cred fac due 2017 BB-(prelim) Recovery Rating 2(prelim) $440 mil term loan due 2019 BB-(prelim) Recovery Rating 2(prelim) Senior Unsecured $250 mil nts due 2020 B-(prelim) Recovery Rating 6(prelim) Complete ratings information is available to subscribers of RatingsDirect on the Global Credit Portal at www.globalcreditportal.com. 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