S&P: Longhorn Midco II LLC Assigned 'B' Corporate Credit Rating, Outlook Stable; First-Lien Debt Rated 'B' (Recovery: '3')
Additionally, we assigned a 'B' issue-level rating to the company's proposed $370 million senior secured first-lien credit facility, which consists of a five-year $40 million revolving credit facility and a seven-year $330 million first-lien term loan. The new debt is being issued by subsidiary CRCI Holdings Inc. The recovery rating is '3', indicating our expectation for meaningful (50%-70%, on the high end of the range) recovery in the event of a default.
The ratings assume the transaction closes substantially on the terms presented to us. Pro forma debt outstanding is about $371 million.
"Our ratings reflect CLEAResult's relatively small scale as a niche player, narrow business focus providing energy efficiency solutions to utility companies, and some customer concentration," said S&P Global Ratings credit analyst Stephanie Harter. Furthermore, the company's majority ownership by a financial sponsor currently constrains our view of the company's financial risk profile, given ownership is recapitalizing the company to more than 5x debt to EBITDA while paying a dividend. Pro forma for the refinancing transaction, we estimate CLEAResult's adjusted debt to EBITDA totals about 5.7x, which we expect to improve to below 5x over the next year primarily reflecting EBITDA growth from recent acquisitions, including last year's acquisition of Triple Point Energy and Conservation Services Group (CSG), but also from debt repayment from free cash flow, which we expect to exceed $15 million annually once its recent acquisitions are fully integrated.
Our stable outlook reflects our expectation that the company will successfully integrate its recent acquisitions with very little integration risk given the progress it already has achieved. We expect the company will expand EBITDA margins as organic sales grow modestly. This should permit the company to materially improve its annual run-rate free cash flow and steadily reduce leverage including debt to EBITDA below 5x over the next year.
We could lower the ratings if the company experiences much weaker operating performance than projected in our base-case forecasts, or if its sponsor ownership adopts a more aggressive financial policy. We believe operating performance could suffer either because of unforeseen competitive threats, possibly from larger vertically integrated utilities competing away the company's market share, or because the company does not perform on its contracts and fails to renew key relationships with utility clients; both are risks we do not currently assess as highly likely. Nonetheless, we believe this risk could cause earnings volatility and EBITDA margins to weaken by more than 250 basis point resulting in a downgrade. We could also lower the rating if the company makes a sizable debt-financed acquisitions or distribution to sponsors such that debt to EBITDA approaches 7x.
We could raise the rating on CLEAResult if the company's financial sponsor reduces debt to EBITDA to well below 5x and demonstrates a commitment to sustaining leverage at these levels for several consecutive quarters, such that any possible future acquisition or shareholder remuneration would not likely result in debt to EBITDA reverting to more than 5x.