OREANDA-NEWS. Fitch Ratings has downgraded the Long-Term Issuer Default Ratings (IDR) and Long-Term debt ratings for Tyco International plc (Tyco; NYSE: TYC) and Tyco International Finance S. A. (TIFSA) to 'BBB+' from 'A-' due to the pending merger with Johnson Controls, Inc. (JCI).

The Short-Term IDR and Commercial Paper Ratings for Tyco and TIFSA have been affirmed at 'F2'. All of the ratings have been removed from Rating Watch Negative. The ratings were placed on Negative Watch on Jan. 26, 2016 after the planned merger was announced.

Fitch has assigned a 'BBB+' IDR to Tyco International Holding S. a.r. l. (TSARL) and 'BBB+' Long-Term Ratings to TSARL's $1 billion revolving bank credit facility and $4 billion term loan. Fitch has assigned an 'F2' Short-Term IDR to TSARL and an 'F2' Short-Term Rating to TSARL's Commercial Paper. TSARL is a direct subsidiary of TIFSA and will retain nearly all of Tyco's operations following Tyco's pending merger with JCI.

In addition, Fitch has assigned Johnson Controls, Inc. (JCI) a 'BBB+' IDR and 'BBB+' ratings to JCI's long-term debt and new $2 billion bank credit facility. Fitch has assigned 'F2' ratings to JCI's Short-Term IDR and commercial paper.

The Rating Outlook for Tyco, TIFSA, TSARL and JCI is Stable.

The pending merger between Tyco and JCI is expected to occur on Sept. 2, 2016. The ratings do not consider Adient, which will be spun off from the merged company at the end of October 2016. The merged company will maintain Tyco's Irish domicile and Tyco International plc will be renamed Johnson Controls International plc (JCI plc), with 56% of shares owned by existing JCI shareholders and 44% by Tyco's shareholders.

A full list of ratings follows at the end of this release.


The downgrade of Tyco and TIFSA's ratings reflects higher leverage at the merged company compared to Fitch's expectations for Tyco before the merger was announced early this year. Fitch expects FFO Adjusted Leverage to be in a range near 3.5x and Debt/EBITDA to approach 2.5x as defined by Fitch. These metrics could be somewhat higher during the first 12 - 18 months following the merger due to integration actions and transaction related costs. Prior to the merger announcement in January 2016, Fitch expected Tyco's leverage would return to lower levels as it completed long-term efforts to resolve legacy liabilities related to previous separations. Other than leverage, some of the combined entity's characteristics, such as diversification and the overall operating margin when considering expected improvements, are consistent with 'A' category ratings.


The pending merger with JCI will combine Tyco's fire and security business with JCI's building controls and HVAC business. Fitch expects the combined company's larger scale and broader technological capabilities will support its competitive position in fragmented markets, some of which are served by other large providers. Product development will be a key differentiator as digital technologies become increasingly important. JCI and Tyco expect to expand margins over the next several years as they realize at least $150 million of tax savings and $500 million of cost synergies through improved procurement and by consolidating overhead expenses. These amounts do not include an additional $400 million of productivity improvements planned at JCI and Tyco apart from the merger.

Other benefits from the merger include potential sales synergies, an expanded product and service portfolio, and the ability to provide and integrate data and connected systems. JCI estimates service and after-market business for the combined company will be just over 40% of total revenue, helping to offset the impact of cyclicality in the company's building markets. JCI's Building Efficiency business complements Tyco's fire and security systems and products businesses, as they serve similar markets but do not necessarily overlap.

JCI has a strong automotive battery business, Power Solutions. Although Power Solutions is unrelated to the other businesses, it has the largest global market share among its competitors, generates solid margins, and is well positioned to generate growth through new technologies and in emerging regions. Approximately three-fourths of revenue is aftermarket business which supports margins and is relatively stable.

Rating concerns include typical integration risks associated with the merger, restructuring costs to realign the combined company, a rapidly evolving automotive battery market served by Power Solutions, and future cash deployment for acquisitions and share repurchases. These concerns are offset by expected cost and tax synergies which should support future margins and Fitch's expectation that acquisitions in the near term will be limited while JCI and Tyco align the merged company. In addition, Power Solutions' strong competitive position and technical capabilities should enable it to participate in new battery technologies as they develop. Other risks include legacy liabilities from Tyco's previous separations and the pending spin-off of Adient; however, Fitch believes these risks are manageable, partly due to Tyco's previous actions to address asbestos and income tax litigation.

Fitch estimates JCI plc will have close to $13 billion of debt at the end of the fiscal year ending Sept. 30, 2016, not including debt at Adient. Fitch estimates total debt could decline to the mid $11 billion range during fiscal 2017 as JCI uses available cash related to the Adient spin-off to reduce debt. The largest portion of long term debt at the merged company will reside at the operating level including $4 billion at TSARL and $4.8 billion at JCI. Each of these entities will be owned directly or indirectly by TIFSA or TIFSA's direct parent, Tyco Fire and Security SCA (TSCA).

TSARL will use proceeds from a $4 billion term loan to fund $3.9 billion of cash to be paid to JCI shareholders under terms of the merger. Fitch expects TIFSA's existing notes of approximately $2.2 billion will remain outstanding after the merger is completed, as a change of control triggering event would require both a change of control and a decline in the ratings, as defined in the indentures, to below investment grade.

Long-term debt at TSARL and JCI is not guaranteed; however, JCI's bank facility will be guaranteed by JCI plc, TSCA and TIFSA. Following the merger, JCI intends to consider an exchange offer for existing senior unsecured notes totaling $4.8 billion although an exchange is not certain.

Fitch rates debt at the operating companies and at TIFSA at the same level. Fitch considers JCI's credit profile to be stronger than TSARL but the difference is not sufficient to differentiate the ratings. TSARL has higher pro forma leverage, which Fitch expects will decline as TSARL directs excess cash flow toward debt reduction. Operating margins at TSARL and JCI are roughly similar, and both companies have meaningful service and aftermarket business that mitigates their exposure to cyclical end markets.

Fitch estimates that nearly two-thirds of the merged company's EBITDA will be generated by JCI while at least one-third of EBITDA will be at TSARL. The proportionally higher level of debt at TSARL compared to JCI will contribute to higher leverage, including debt/EBITDA in the high-2x range as estimated by Fitch, compared to a mid-2x range for the merged company and around 2x or below for JCI. However, TSARL should generate sufficient free cash flow (FCF) to reduce debt and leverage beginning in fiscal 2017.

The ratings incorporate strong market positions within the merged company's fragmented building, fire and security markets, and the leading global market position for automotive batteries in the Power Solutions business. Fitch views leverage metrics as somewhat weak for the 'BBB+' rating; however, this concern is offset by solid market positions, steady FCF expected by Fitch subsequent to the merger, and financial flexibility including minimal limitations on available cash associated with the company's Irish domicile.

Fitch expects FCF for the merged company will be adequate to fund modest discretionary spending for acquisitions, share repurchases and other uses while maintaining steady debt and leverage. Initially, FCF will be reduced during the first one-to-two years by merger related costs including restructuring and integration charges that should decline over time as the integration is completed. Fitch estimates FCF will reach 4% of sales or higher by the end of 2017 or in 2018.

Fitch estimates Tyco's FCF after dividends on a standalone basis in 2016 will be near break-even. This level would be well below Fitch's previous estimate of approximately $500 million due to an accelerated dividend ahead of the pending merger and efforts by Tyco to resolve a number of contingent and litigation liabilities prior to completing the merger, including a $138 million payment to settle tax litigation with the IRS. Tyco has made meaningful progress in the past one-to-two years in resolving asbestos, tax and other contingent liabilities, which reduces the risk of future large payments. Fitch still expects FCF at Tyco to improve following the expected merger and other costs related to the merger with JCI.

Net pension liabilities on a combined basis totaled $1.1 billion as of Sept. 30, 2015 and included $456 million (80% funded) at Tyco and $686 million (85% funded) at JCI, which includes Adient. Fitch anticipates the majority of JCI's pension liabilities will remain with JCI although a small portion will be moved to Adient. In 2016, JCI and Tyco plan to contribute $113 million and $29 million, respectively. Fitch expects future contribution amounts will be roughly similar although discount rates used to calculate pension liabilities represent a risk if they remain low.


Fitch's key assumptions for the merged company include:

--The spin-off of Adient occurs at the end of October 2016 as planned;

--Margins improve during the next several years as the merged company realizes tax savings, cost synergies between Tyco and JCI's Building Experience business, and ongoing productivity improvements;

--The Power Solutions business maintains its leading global market share including participating in new technologies;

--Debt totals slightly more than $11 billion at the end of fiscal 2017;

--The company's long-term leverage remains within steady ranges, including adjusted debt/EBITDAR in the low 3x range and FFO adjusted leverage in the mid 3x range;

--FCF margin increases to around 4% of revenue or higher as restructuring and other transaction related costs decline and margins increase.


Future developments that may, individually or collectively, lead to a positive rating action include:

--The integration of Tyco with JCI's Building Experience business leads to substantial gains in market share;

--Higher margins and steady debt levels lead to consistently higher FCF and lower leverage, including FFO adjusted leverage below 3x;

--FCF margin increases to 6%-7% compared to slightly above 4% projected by Fitch.

Future developments that may, individually or collectively, lead to a negative rating action include:

--Inability to realize expected cost synergies and margin improvement during the next three years;

--Ineffective product development, particularly in the Power Solutions business, leads to loss of market share or lower margins;

--Leverage increases for more than a short period as a result of cash deployment for acquisitions or share repurchases, including FFO adjusted leverage above 4x or gross debt/EBITDA consistently above 2.5x.


Fitch expects initial liquidity for the merged company, excluding Adient, will include more than $1 billion of cash. JCI plc's domicile in Ireland should minimize tax liabilities related to foreign earnings and enable the company to maintain relatively low cash levels at or below the $345 million balance reported by Tyco at June 30, 2016.

Liquidity also includes $3 billion of bank credit facilities consisting of a $2 billion facility at JCI and a $1 billion facility at TSARL that each mature in 2020. The bank facilities back commercial paper. An existing credit facility at TIFSA will no longer be in place after the merger is completed.

Fitch's calculation of debt includes any outstanding factored receivables, including non-recourse facilities. Scheduled maturities of long term debt for the combined company are well distributed and do not exceed $600 million in any single year before 2026.


Fitch has taken the following rating actions:

Tyco International plc

--Long-Term IDR downgraded to 'BBB+' from 'A-';

--Short-Term IDR affirmed at 'F2'.

Tyco International Finance S. A.

--Long-Term IDR downgraded to 'BBB+' from 'A-';

--Senior unsecured revolving credit facilities downgraded to 'BBB+' from 'A-';

--Senior unsecured notes downgraded to 'BBB+' from 'A-';

--Short-Term IDR affirmed at 'F2';

--Commercial Paper affirmed at 'F2'.

Fitch has assigned the following ratings:

Tyco International Holding S. a.r. l.

--Long-Term IDR 'BBB+';

--Senior unsecured revolving credit facility 'BBB+';

--Senior unsecured term loan 'BBB+';

--Short-Term IDR 'F2';

--Commercial Paper 'F2'.

Johnson Controls, Inc.

--Long-Term IDR 'BBB+';

--Senior unsecured revolving credit facility 'BBB+';

--Senior unsecured notes 'BBB+';

--Short-Term IDR 'F2';

--Commercial Paper 'F2'.

The Rating Outlook is Stable.