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Fitch Rates Citrix Systems' $500MM Senior Notes Offering 'BBB'
November 13, 2017 / 3:32 PM / 11 days ago

Fitch Rates Citrix Systems' $500MM Senior Notes Offering 'BBB'

(The following statement was released by the rating agency) CHICAGO, November 13 (Fitch) Fitch Ratings has assigned a 'BBB' rating to Citrix Systems Inc.'s $500 million 10-year senior notes offering. Pro forma for the issuance, Fitch's actions affect $2.25 billion including the revolving credit facility (RCF). A full list of current ratings follows at the end of this release. Fitch expects Citrix will use net proceeds from the issuance for share repurchases, given the vast majority of Citrix's cash is generated outside the U.S. and held by foreign subsidiaries. The senior notes offering will be pari passu with Citrix's existing senior unsecured debt, including the convertible notes and RCF. KEY RATING DRIVERS Diminished Event Risk: Fitch expects Citrix will use roughly half of its $700 million-$900 million of annual FCF for a combination of tuck-in acquisitions and share repurchases, which Fitch believes is consistent with diminished event risk following the abatement of activist investor pressures and recapitalization speculation. Share repurchases ($500 million through June 30, 2017) could exceed Fitch's forecasted FCF of $800 million-$850 million in 2017, although Fitch believes this would represent a catch-up from no share repurchases in 2016. Future acquisitions and share repurchases may result in incremental borrowing given that Fitch estimates one-third of cash flow is outside the U.S. Nonetheless, Fitch believes Citrix will manage debt levels to maintain gross total leverage in the 2x-3x range, versus 1.6x pro forma for the senior notes issuance. This equates to roughly 1.5x-2.5x of Fitch's supplemental adjusted net leverage calculation, which nets a portion of offshore cash against debt in calculating leverage. Secular Growth Markets: Fitch believes Citrix's large installed base in the industry's largest workspace business positions the company for growth in migrating workloads to the cloud, which should be a long-term secular growth driver, given only 20% of workloads are presently in the cloud. Citrix's focus on providing integrated workspace-as-a-service (WaaS) solutions addresses increasingly hybrid IT environments, mobility and endpoint diversity. Additionally, Citrix has a strong No. 2 position in application delivery controllers (ADC), providing network-level security and enabling the company to collect network data that will drive its nascent data-as-a-service offering. Citrix's solid No. 3 position in software defined wide area network (SD-WAN) should enable the company to take advantage of robust intermediate-term market growth from increasing mobility. Finally, Citrix's file-sharing business for the small- to medium-size business (SMB) market should grow from increasing sophistication, security and ability to cross-sell this technology into the company's installed base as an integrated technology. Intensifying Competition: Fitch expects Citrix to be exposed to intensifying competition across each of its core end markets, including market leaders, who are larger and have greater financial flexibility. Citrix is the market leader in the workspace services market, which is a significant market opportunity as customers migrate to hybrid, multi-cloud environments. Other competitors in this market include VMware Inc. and Amazon Web Services (AWS), which are also cloud-based product suites and all competitors should benefit from their respective installed bases, although Fitch believes VMware's and AWS' greater scale may provide advantages in customer acquisitions. Strengthening FCF Profile: Fitch believes Citrix's FCF profile is solid but will strengthen from higher recurring revenue associated with migrating customers to hybrid, multi-cloud environments. Consistent with the software model, Citrix's recurring maintenance and support revenue and cash flows provide stability to operating results. Fitch estimates recurring revenue represents roughly two-thirds of Citrix's total, but should expand, driven by subscription updates and support, resulting in growing deferred revenue balances. Fitch expects $700 million-$900 million of annual FCF through the forecast period. Reduced Diversification: Citrix's spinoff of GoToBusiness and subsequent merger with LogMeIn Inc. on Jan. 31, 2017 was consistent with the company's strategy to transition to a subscription and cloud-based portfolio and invest in high-growth security markets. Nonetheless, the transaction reduced business diversification and heightens execution risk. The separation of the faster growing but less profitable business also contributed $682 million of revenue in 2016 and $160 million of segment profit, or 23.5% of segment revenue versus 32.6% for the remaining Enterprise & Service Provider segment. DERIVATION SUMMARY Citrix's ratings and Outlook are supported by Fitch's expectations for improving execution within the context of secular growth markets and a large installed base. Restructuring should enabled Citrix to partially offset profit margin dilution as company's ramp aaS revenue to scale, resulting in a strengthening of an already solid FCF profile. At the same time, Citrix faces intensifying competition from VMware, a strong competitor in workspace services, and F5 and Cisco (which is larger and better capitalized). In addition, Fitch believes Citrix could borrow to support shareholder returns given its considerable offshore cash flow, but that the company would manage gross total leverage in the 2x to 3x range. KEY ASSUMPTIONS Fitch's key assumptions within our rating case for the issuer include: --Fitch expects low-single-digit organic revenue growth through the forecast period, driven by modest growth in Workspace Services and Delivery Network and robust growth in Cloud Services, which should offset declines for Professional Services; --Operating EBITDA margins in the low- to mid-30s through the forecast period, driven by lower costs from restructuring offset by increasing investments requirements and higher aaS sales mix; --Capital Spending declining to roughly 2% through the forecast period from nearly 4% in 2016, due to the spin-off of GoToBusiness; --Citrix uses roughly half of annual FCF of $700 million to $900 million for a combination of tuck-in acquisitions and share repurchases; --Company refinances convertible notes maturing in 2019 and issues incremental debt to support shareholder returns, targeting gross total leverage in the 2x-3x range. RATING SENSITIVITIES Strong customer adoption of Citrix's cloud services and customer migration strategy that results in sustained organic revenue growth and structurally higher recurring revenue levels and the company's commitment to managing debt levels to sustain total leverage below 2x (supplemental adjusted net leverage below 1.5x) could lead to positive rating actions. Negative rating actions could occur from sustained negative organic revenue growth, signaling a competitive disadvantage for Citrix's cloud services and customer migration strategy, or debt-financed share repurchases or sizeable acquisitions on a standalone or aggregate basis, resulting in total leverage sustained above 3x (supplemental adjusted net leverage above 2.5x) could lead to negative rating actions. LIQUIDITY Fitch believes Citrix's liquidity was adequate as of Sept. 30, 2017 and supported by: --$2.6 billion of cash, cash equivalents and short-term investments, of which $2.5 billion was held by foreign subsidiaries; --$250 million undrawn RCF expiring Jan. 7, 2020 with a $250 million accordion feature and financial tests, including maximum leverage at 3.5x and minimum interest coverage at 3x. Fitch's expectation for $700 million-$900 million of annual FCF over the intermediate term also supports liquidity, although one-third of FCF is outside the U.S. Pro forma for the senior notes issuance, as of Sept. 30, 2017, debt was $1.9 billion, consisting $1.4 billion of convertible notes due April 15, 2019 and the senior notes issuance. FULL LIST OF RATING ACTIONS Fitch has assigned the following ratings: Citrix Systems Inc. --Long-Term IDR 'BBB'; --RCF 'BBB'; --Senior unsecured debt 'BBB'. The Rating Outlook is Stable. Fitch has also assigned a 'BBB' rating to the senior unsecured notes issuance. Contact: Primary Analyst Jason Pompeii Senior Director +1-312-368-3210 Fitch Ratings, Inc. 70 West Madison Street Chicago, IL 60602 Secondary Analyst Alen Lin Senior Director +1-312-368-5471 Committee Chairperson Philip Zahn Senior Director +1-312-606-2336 Relevant Committee Date: Oct. 25, 2017 Summary of Financial Statement Adjustments: Financial adjustments include Fitch's application of the supplemental adjusted net leverage ratio, which nets a portion of cash, cash and equivalents and marketable securities investments held outside the U.S. against debt. Fitch assumes a 35% tax rate upon repatriation and that a portion of repatriated cash will be returned to shareholders. Fitch nets the remaining cash against total debt and divides by operating EBITDA to calculate supplemental adjusted net leverage. 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