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TEXT-S&P affirms Rocket Software 'B+' corporate credit rating
September 19, 2012 / 3:00 PM / 5 years ago

TEXT-S&P affirms Rocket Software 'B+' corporate credit rating

(The following statement was released by the rating agency)

Overview
     -- U.S. infrastructure software provider Rocket Software is proposing to 
issue $59 million of incremental first-lien debt to fund the acquisitions of a 
data storage company and a mainframe integration and modernization business.
     -- We are affirming our ratings on Rocket, including our 'B+' corporate 
credit rating and our 'BB' issue-level on its first-lien credit facilities.
     -- We are lowering the issue-level rating on the company's second-lien 
credit facility to 'B' from 'B+' and revising the recovery rating to '5' from 
'4'.
     -- The stable outlook reflects our expectation that Rocket's highly 
recurring revenue base and consistent profitability will result in stable 
operating performance, providing key support for the rating.

Rating Action
On Sept. 19, 2012, Standard & Poor's Ratings Services affirmed its 'B+' 
corporate credit rating on Waltham, Mass.-based enterprise infrastructure 
software provider Rocket Software Inc. The outlook is stable.

At the same time, we affirmed our 'BB' issue-level rating on the company's 
first-lien credit facilities comprising a $359 million term loan (including 
the proposed $59 million incremental debt) due 2018 and a $25 million 
revolving credit facility due 2017. The '1' recovery rating remains unchanged 
and indicates our expectation of very high (90%-100%) recovery in the event of 
payment default.

We also lowered our issue-level rating on the company's $105 million 
second-lien term loan, due 2019 to 'B' from 'B+',  revising our recovery 
rating to '5' from '4'. The '5' recovery rating indicates our expectation of 
modest (10%-30%) recovery in the event of payment default.

Rationale
The ratings on Rocket reflect the company's "weak" business risk profile 
marked by its niche position in the market for infrastructure software and the 
presence of larger and better funded competitors, and its "aggressive" 
financial profile, with pro forma leverage in the high-4x area; an acquisitive 
growth strategy; and an ownership structure that, in our view, is likely to 
preclude sustained de-leveraging. However, we expect that meaningful recurring 
revenues, high renewal rates, and an entrenched customer base will continue to 
support modest organic revenue growth and consistent profitability.

Rocket is proposing the acquisition of a data storage provider and a mainframe 
integration and modernization business which will add back-up and recovery, 
and mainframe access capabilities to its product portfolio. We anticipate that 
the complementary nature of these capabilities with the company's existing 
product offerings, combined with its existing sales and distribution channels 
will allow it to deliver modest sales growth and cost efficiencies following 
the acquisitions.

Rocket provides enterprise software products and solutions in the following 
four areas: Database Servers and Tools; Application Development, Integration, 
and Modernization; Business Intelligence and Analytics; and Storage, Networks, 
and Compliance. Despite difficult IT spending conditions over the past two 
years, Rocket's revenues grew by approximately 23% annually from 2008 to 2011, 
due primarily to acquisitions. The company benefits from a significant 
relationship with a large original equipment manufacturer (OEM) partner, from 
whom it generates about a quarter of total revenues, and revenue visibility 
from greater-than-90% renewal rates on maintenance and recurring licenses. 
Besides the larger OEM partner mentioned above, no other customer represents 
more than 3% of revenues.

The company has been able to improve its EBITDA margin through scale 
efficiencies, particularly consolidating sales and marketing efforts with 
those of acquired businesses. However, its weak business risk profile reflects 
its small position in the overall infrastructure software market, competition 
from larger companies with significantly more financial resources and broader 
product offerings, high R&D expenses to meet the demands of customers' 
technology roadmap, and its short history at its current operating and 
profitability level. Nevertheless, we expect the highly embedded nature of 
Rocket's development tools and software products in the expanding 
infrastructure software market to enable the company to maintain strong 
adjusted margins, which compare favorably with software peers of similar size.

Rocket has an aggressive financial profile, with June 2012 leverage of 4.7x, 
pro forma for the proposed acquisitions, future earnout payments from legacy 
acquisitions, and the capitalization of operating leases as debt, and 
excluding purchase accounting adjustment add-backs to EBITDA base. As acquired 
license and maintenance revenue contracts cycle past purchase accounting 
adjustments for deferred revenue, we expect leverage to decline to the low-4x 
area in the near term. We anticipate Rocket using more of its free cash flow 
for tuck-in acquisitions, rather than debt reduction, thereby complementing 
the company's existing software portfolio, and leading to moderate near-term 
leverage improvements. The company has access to unlimited incremental term 
loans up to 3x first-lien leverage plus $40 million under its first-lien 
credit agreement, and $100 million of incremental term loans up to 4x total 
leverage under the second lien (permitted if specific covenant conditions are 
met) for opportunistic acquisitions.

Liquidity
Rocket's liquidity is "adequate," with sources of cash from operations likely 
to exceed uses over the next 12 to 24 months. Cash sources include a modest 
expected cash balance after the proposed acquisitions, positive annual free 
cash flow, and full availability under its $25 million revolving credit 
facility. We expect cash uses to include acquisitions, growth-related working 
capital investments, modest annual capital expenditures, and mandatory term 
loan amortization.

Our view of Rocket's liquidity incorporates the following expectations, 
assumptions, and factors:
     -- Sources of cash are likely to exceed uses by at least 20% in the next 
12-24 months.
     -- Net sources would be positive, even with a 15% drop in EBITDA.
     -- The company will maintain adequate covenant headroom. Debt maturities 
will be approximately $3.6 million annually.
     -- Acquisitions funded from internally generated cash flow are 
incorporated into our current rating.

Recovery analysis
For the complete recovery analysis, see the recovery report on Rocket, to be 
published separately on RatingsDirect.

Outlook
The stable outlook reflects our expectation that Rocket's revenue base will 
remain highly recurring and profitability will stay stable. The company's 
niche market position, acquisitive growth strategy, and an ownership structure 
that we believe will preclude substantial de-leveraging limit a possible 
upgrade. 

If competition from larger business rivals intensifies, leading to pricing 
pressure, or if the company increases costs for R&D, profitability could 
weaken. Also, the company could pursue debt-financed acquisitions. We could 
lower the rating if these scenarios cause Rocket's leverage to approach 6x.

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

Ratings Affirmed

Rocket Software, Inc.
 Corporate Credit Rating                B+/Stable/--       

Downgraded; Recovery Rating Revised
                                        To                 From
Rocket Software, Inc.
 Senior Secured 2nd-lien                B                  B+
   Recovery Rating                      5                  4

Ratings Affirmed; Recovery Ratings Unchanged

Rocket Software, Inc.
 Senior Secured                         BB                 
   Recovery Rating                      1                  

 (Caryn Trokie, New York Ratings Unit)

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