Fitch Rates PerkinElmer's New Revolver 'BBB'; Outlook Stable
KEY RATING DRIVERS
--PerkinElmer has generally maintained gross debt between 2.0x and 2.5x, and Fitch expects this metric to remain within this range within most periods. As has been the case historically, Fitch anticipates that gross leverage could temporarily exceed 2.5x if the company issues incremental debt to finance targeted acquisitions.
--Adjusted EBITDA margins have recently stabilized at levels near 20%, which represents an improvement of roughly 400 bps from levels reported in 2011. Fitch projects that the company will be able to sustain and possibly improve upon these levels going forward, as successful execution of restructuring initiatives has helped offset the negative margin impact of foreign exchange (FX) rates.
--Fitch anticipates low - to mid-single-digit organic revenue growth in 2016 and beyond, supported by growing demand in emerging markets and the favorable impact of new products, which should more than offset industry headwinds that include constrained research spending.
--Free cash flow (FCF) generation has been consistently solid and should remain so for the foreseeable future. Fitch projects annual FCF of around $250 million or more for the next few years, benefitting from EBITDA growth, minimal required contributions to pension plans and continued, manageable capital expenditure (capex) requirements.
--Fitch believes PerkinElmer's top priority for capital use remains asset purchasing, specifically bolt-on acquisitions designed to gain access to new technologies or business channels. In the absence of acquisitions, Fitch believes shareholder returns, especially opportunistic share repurchases, will take precedence over debt reduction.
--Fitch expects revenues to increase from 2016 to 2019 by a CAGR of between 3%-4%, reflecting sustained but moderating FX headwinds in 2016 followed by stronger growth later in the forecast period.
--Fitch models show EBITDA growth resulting from growing revenues and modest margin expansion, benefitting from cost savings derived from recent restructuring activities.
--FCF exceeds $250 million annually, benefitting from recent completion of key capital projects, modest pension funding requirements, and long-dated debt maturities.
--Incremental debt increases of $50 million to help fund acquisitions, resulting in gross leverage sustained around 2.3x throughout the forecast period.
Given Fitch's September 2015 upgrade of PerkinElmer's ratings, near-term upward ratings momentum is unlikely. Longer-term, a positive rating action could be considered if PerkinElmer were to significantly increase its scale and further expand the scope of products and services while maintaining gross debt leverage below 2.0x, maintaining EBITDA margins near 20% and generating U. S.-based cash flows that exceed annual debt servicing requirements by a comfortable margin.
Downward rating action could result from heavy pressure on operations or leveraging shareholder-friendly actions or acquisitions such that debt leverage was expected to exceed 2.5x for 18-24 months or longer.
PerkinElmer's ratings could also be downgraded if the company's U. S.-generated cash flows decreased to a level where its ability to internally fund annual debt servicing requirements from domestic cash generation came into question. Operational weakness could stem from lower-than-anticipated results due to poorer-than-expected sales performance if the company's diversified portfolio cannot withstand headwinds of capital expenditure constraints and tightened global research spending.
Good Balance Sheet Flexibility
Given Fitch's outlook for low - to mid-single-digit revenue growth and modest margin expansion, the company should be able to maintain leverage within 2.0x-2.5x fairly comfortably. Gross debt leverage was 2.3x as of March 31, 2016. Fitch expects that PerkinElmer could occasionally use debt to help fund acquisitions of a size that would cause the company's gross leverage to exceed 2.5x. However, we believe PerkinElmer's 'BBB' rating provides flexibility to temporarily exceed 2.5x gross leverage if it were to demonstrate a clear pathway to reducing leverage closer to 2.5x within 18-24 months.
Restructuring Actions Support Sustained Margin Improvement
Cost savings associated with numerous restructuring programs over the past several years appear to be durable. PerkinElmer has successfully executed upon its strategic focus on margin expansion as evidenced by EBITDA margin increasing steadily to current levels around 20% from 15.7% in 2011. Improvement resulted from restructuring operations as well as a shift in product mix toward higher margin businesses, including software services and consumables. Looking forward, Fitch sees the potential for further margin expansion, though at a significantly slower pace than over the prior several years. Fitch expects near-term additional margin improvement primarily driven by additional changes in product mix toward higher margin products and services, rather than additional restructuring programs.
Solid Organic Growth Outlook
PerkinElmer's product offering has proved to be resilient to recent industry headwinds that have included tightened capital expenditures in Western Europe and constrained research spending across much of the globe. Fitch projects that PerkinElmer will generate compound growth in reported revenues of between 3%-4% as global population growth and an expanding middle class in emerging markets continue to generate increased demand for diagnostic products in the company's Human Health business, which should benefit from increased demand for high quality health care outside of the U. S. Demand for PerkinElmer's Environmental Health business should be driven by growing demand for food supply-chain security and a worldwide shortage of clean water. These factors are driving increased regulatory scrutiny and spurring demand for increased monitoring of air, food and water quality.
Strong FCF Generation
Fitch's estimates that stable EBITDA margins, manageable capital spending, a consistent dividend and modest pension contributions will yield annual FCF in excess of $250 million annually for the next several years. Steps taken over the past several years to fund the U. S. defined pension benefit plan and improve operational efficiency have materially boosted cash flows versus levels reported in 2012 and 2013. FCF totalled $217 million for the latest 12 months as of March 31, 2016, representing an FCF margin of 9.5%. These results reflect significant improvement over the $77.9 million (3.7% FCF margin) and $88 million (4.1% FCF margin) reported in 2012 and 2013, respectively.
Additional, Opportunistic Acquisitions Likely
Fitch believes PerkinElmer's currently highest priority for capital deployment is asset purchasing, specifically small - to moderately-sized opportunities to gain access to technology and broaden the research and product portfolios, as well as targets in adjacent markets.
PerkinElmer management has indicated publicly that it would be comfortable operating at 2.5x gross leverage or a bit higher over the next couple of years, which Fitch views as a signal that PerkinElmer will occasionally use debt to help fund targeted acquisitions, similar to its December 2014 purchase of Perten Instruments Group AB (Perten), for $269.9 million in cash.
In the absence of attractive acquisition opportunities, Fitch believes that shareholder returns, especially opportunistic share repurchases, will take precedence over debt reduction.
SIMPLE MATURITY PROFILE, SOLID LIQUIDITY
Available liquidity is sufficient. PerkinElmer's debt maturity is manageable and the company's capital structure is simple. Aside from the new $1 billion RCF maturing in August 2021, PerkinElmer's debt obligations consist of two unsecured debt issuances ($498 million of 5% notes due in November 2021 and EUR496 million of 1.875% notes due July 2026). Although PerkinElmer generally carries a meaningful amount of cash ($248 million as of July 3, 2016), most of the cash balance is located outside the U. S.
FULL LIST OF RATINGS
Fitch currently rates PerkinElmer Inc. as follows:
--Long-Term Issuer Default Rating 'BBB';
--Senior unsecured credit facility 'BBB';
--Senior unsecured notes 'BBB'.
The Rating Outlook is Stable.