Fitch Rates Kennametal's Proposed Senior Unsecured Notes 'BBB'
Fitch Ratings has assigned a 'BBB' rating to Kennametal Inc.'s new $400 million of seven-year senior unsecured notes. Kennametal will use a portion of net proceeds to repay outstanding borrowings under the company's credit facilities, which Fitch estimates at approximately $290 million, and any remainder for general corporate purposes.
The Rating Outlook is Stable. A full rating list follows at the end of this release.
The ratings have incorporated Kennametal's capacity to make modest debt-funded acquisitions or deploy cash for share repurchases without affecting the ratings, given low total leverage (total debt to operating EBITDA). Pro forma for the senior notes issuance and repayment of borrowings under the RCF, Fitch estimates total leverage at Sept. 30, 2012 was 1.2x.
Fitch expects solid credit protection measures for the ratings over the near term. Total leverage should be less than 2x and free cash flow (FCF) to debt should range from 10%-20% for fiscal 2013, assuming pressured operating results over the near term. Nonetheless, credit metrics will remain cyclical and could deteriorate materially in a downturn.
Macroeconomic headwinds will result in 2013 organic revenue growth and profitability meaningfully below previous estimates. Nonetheless, Kennametal's operating results should remain solid for the ratings, due in part to the acquisition of Deloro Stellite (Stellite) and past cost restructuring actions.
The March 2012 acquisition of Stellite should add $200 million - $250 million to organic revenues, which Kennametal now expects will be slightly down for the fiscal 2013. Over the longer term, Stellite will add operating balance from increased product and geographic diversification.
Past restructuring programs have lowered Kennametal's fixed cost structure and should soften the impact of negative organic revenue growth on near-term profitability. Fitch expects Kennametal's operating profit margin will decline to low-double digits for fiscal 2013 from peak levels in the mid-teens for each of the past two fiscal years.
FCF should range from $100 million to $200 million for fiscal 2013, despite the expectation of weaker operating results. Cash requirements are modest, including pension contributions. Kennametal's pension plans were underfunded by approximately $175 million but a substantial portion is related to unfunded plans outside the U.S. Kennametal estimates it will contribute $10 million in 2013, similar to 2012.
The ratings incorporate Kennametal's:
--Leading market positions due to solid product and geographic diversification;
--Positive FCF through the business cycle from solid profitability and counter-cyclical working capital model; and
--Conservative financial policies.
Concern's center on Kennametal's:
--Exposure to business cycles, since the company derives much of its revenue from consumable, short cycle products that can be sensitive to economic conditions;
--Volatile commodity prices, resulting in uneven gross profit margins; and
--Integration risks related to Stellite.
Pro forma for the $400 million senior notes issuance and assuming the repayment of $290 million of borrowings under the credit facilities, Kennametal's liquidity at Sept. 30, 2012 included:
--Approximately $220 million of cash;
--A $600 million bank revolving credit facility expiring in 2016.
The company also had uncommitted credit lines with various commercial banks of approximately $127 million, translated into U.S. Dollars at June 30, 2012. As of Sept. 30, 2012, approximately $71 million of current maturities offset liquidity.
Pro forma for the issuance, total debt was approximately $701 million and primarily consisted of:
--$400 million of new seven-year senior notes; and
--$300 million of notes due in 2022.
WHAT COULD TRIGGER A RATING ACTION
Positive: Future developments that may individually or collectively lead to a positive rating action include:
--Diversification into longer cycle products that would reduce the company's sensitivity to business cycles; and
--Sustainable operating profit margin improvement.
Negative: Future developments that may, individually or collectively, lead to a negative rating action include:
--Margin pressure or weak FCF resulting from weak demand, high commodity prices, or unexpected operating challenges;
--Aggressive cash deployment for share repurchases or other shareholder-friendly actions that could increase debt/EBITDA materially toward 2.0x or higher.
Fitch has affirmed Kennametal's ratings as follows:
--Issuer Default Rating (IDR) at 'BBB';
--Senior unsecured bank facilities at 'BBB';
--Senior unsecured debt at 'BBB'.
Fitch's actions affect approximately $1.3 billion of total debt, including the $600 million revolving credit facility expiring 2016.
Additional information is available at 'www.fitchratings.com'. The ratings above were solicited by, or on behalf of, the issuer, and therefore, Fitch has been compensated for the provision of the ratings.
Applicable Criteria and Related Research:
--'Corporate Rating Methodology' (Aug. 8, 2012).
Applicable Criteria and Related Research:
Corporate Rating Methodology
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