S&P: Misys Rating Placed On Watch Positive Following Expected Significant Deleveraging Event; Proposed Loans Rated 'BB'
OREANDA-NEWS. S&P Global Ratings said today that it placed its 'B' long-term corporate credit rating on U. K.-based software company Misys Newco 2 S. a.r. l (Misys) on CreditWatch with positive implications. At the same time, we assigned our 'B' long-term corporate credit rating to its subsidiary Turaz Global S. a.r. l, as well as Magic Newco 5 S. a.r. l, Magic Newco LLC, and Magic Bidco Ltd.--all of which we view as core subsidiaries within the Misys Group because they serve as the group's financing entities. We also placed the ratings on CreditWatch with positive implications. In addition, we assigned our 'BB' issue rating to Misys' proposed senior secured term loans. The recovery rating on these facilities is '3', indicating our expectation of meaningful (50%-70%) recovery prospects in the event of a payment default. The CreditWatch placement reflects our expectation of a significant event at Misys, which should lead to a meaningful improvement in the company's S&P Global Ratings-adjusted credit metrics. Specifically, we anticipate that Misys' adjusted debt to EBITDA will decline to below 4x by financial 2018 (ending May 31) and that FOCF to debt will improve to more than 10% in the same period. We also expect meaningful improvement in the company's interest coverage as it plans to refinance its existing term loans--which should result in a material reduction in the company's cost of debt. This is mainly because the company's second-lien debt, which will be repaid, bears a very high margin of 12%. Our adjusted EBITDA figure treats Misys' capitalized development costs as an expense. Our assessment of Misys' business risk profile reflects our view of its solid positioning in the financial services software solutions market, including the fragmented treasury and risk management software solutions, and its focus on mission critical software to financial institutions, resulting in very high retention rates of about 94%. Our assessment is also supported by our anticipation of continued outsourcing trends for financial institutions, notably as they strive to create cost efficiencies. This trend reflected Misys' strong performance in financial 2016, with growth in initial license fees of more than 20%. We currently see the U. K.'s decision to leave the EU as having a limited potential impact on Misys' existing client base, as the software remains mission critical to these customers and will remain so under all reasonable scenarios. However, we see some potential risks to continued high growth in Misys' initial license fees in financial 2017, mainly as some financial institutions may delay the initial investment required in the face of uncertainties. Over the longer term, we think this may also create opportunities for Misys to generate additional revenues from the potential movement of customers or changes in regulations. Misys' operations in a niche market and its reliance on financial institutions as end-customers constrain our assessment of its business risk profile. Our assessment is further constrained by a relatively meaningful portion of Misys' revenues coming from the sale of new licenses which, in our view, will correlate very closely with market conditions and could fluctuate significantly during the economic cycle. Our base case assumes: Mid-single-digit revenue growth in the financial years ending 2017 and 2018, resulting from growth in initial license fees in Europe and emerging markets, as well as maintenance fees related to the high growth in new licenses in financial 2016.A marginal decline in EBITDA margins due to increased sales and marketing as the company is focused on cross-selling products, as well as lower margins for cloud-based subscriptions. Annual capital expenditure (capex) of about 2.0% of revenues excluding capitalized development costs. Based on these assumptions, we arrive at the following credit measures: Debt to EBITDA of about 4x in financial 2017 and 3.7x-3.9x in financial 2018; Funds from operations (FFO) to debt of about 20%; andFOCF to debt of 13%-15%. We aim to resolve the CreditWatch subject to completion of the significant deleveraging event in line with our base case. Raising our long-term rating on Misys by three notches would depend on:The potential debt reduction and the terms of the proposed refinancing, and the consequent impact on Misys' credit metrics; andOur assessment of the company's financial policy.