Moody's Downgrades Arconic's (ARNC) Rating to 'Ba2'; Outlook is Stable
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Moody's Investors Service downgraded Alcoa Inc.'s (renamed Arconic) (NYSE: ARNC) Corporate Family and Probability of Default ratings one notch to Ba2 and Ba2-PD from Ba1 and Ba1-PD, respectively following the separation of Alcoa's Upstream business from its Value-Add business ("the separation"). The Value-Add business that is the remaining Alcoa Inc. entity is renamed Arconic Inc. ("Arconic"). Concurrently, the ratings on Alcoa Inc.'s senior unsecured debt and industrial revenue bonds were downgraded to Ba2 from Ba1. The company's Speculative Grade Liquidity ("SGL") rating was also downgraded to SGL-2 from SGL-1. The ratings outlook is stable. This concludes Moody's review for downgrade that was initiated on September 22, 2016.
Arconic is comprised of the legacy "Value-Add" businesses of Alcoa (with the exception of the Warrick, IN rolling mill and equity interest in a Saudi Arabian joint venture). The majority of Alcoa Inc.'s existing debt is remaining at Arconic.
The following ratings were downgraded:
Issuer: Alcoa Inc.
Corporate Family Rating, to Ba2 from Ba1;
Probability of Default Rating, to Ba2-PD from Ba1-PD;
Senior Unsecured Shelf due 2017, to (P)Ba2 from (P)Ba1;
Pref. Stock Preferred Stock, to B1 (LGD-6) from Ba2 (LGD-6);
Senior Unsecured Medium-Term Note Program, to (P)Ba2 from (P)Ba1;
Senior Unsecured Regular Bond/Debenture, to Ba2 (LGD-4) from Ba1 (LGD-4)
Issuer: Alcoa Inc.
Issuer: Chelan County Development Corporation, WA
Backed Senior Unsecured Revenue Bonds, to Ba2 (LGD-4) from Ba1 (LGD-4)
Issuer: Iowa Finance Authority
Backed Senior Unsecured Revenue Bonds, to Ba2 (LGD-4) from Ba1 (LGD-4).
The ratings downgrade is driven by the combination of the higher financial leverage pro forma for the separation as well as near-term headwinds in the company's higher growth aerospace segment and continued but slower than anticipated growth in certain of the company's other end-markets. The action also considers the loss of the company's commodity business that although volatile, contributed to higher EBITDA levels supporting the existing debt and often served as a countercyclical business to the company's value-add manufacturing operations.
The action reflects Moody's expectation that debt/EBITDA (including Moody's standard pension and lease adjustments) will range from roughly 5.0 times at separation improving to 4.0 times by the end of 2017. The improvement is based on the expectation that the company will reduce $1.8 billion of debt over the next three to six months to be accomplished through $1.2 billion of asset sale proceeds (primarily from the spin-off of the upstream and certain other assets which comprise Alcoa Upstream Corporation, renamed Alcoa Corporation) and repayment of the company's $750 million notes due February 2017. Pro-forma for these actions, debt/EBITDA stands at 4.3 times versus the aforementioned 5.0 times level at separation. These figures do not include the potential monetization of Arconic's 19.9% retained equity interest in Alcoa Corporation.
Our ratings consider that slower than expected growth in certain of the company's primary end-markets including aerospace and commercial transportation will make meaningful de-leveraging through EBITDA growth less likely through 2017. We expect some of these end-market challenges to moderate in the longer-term with debt/EBITDA improving to the mid-3 times range by the end of 2018, in line with the Ba2 rating.
Arconic's Ba2 CFR reflects its globally diversified and sizable revenue base, strong market position in the majority of its end-markets and diverse revenue stream. The company possesses leading market positions in several of the segments that it serves and is expected to benefit in the long-term from some of the higher growth businesses in its portfolio including aerospace and automotive that together constitute approximately half of revenues. The ratings recognize that there are currently record backlogs at commercial aerospace OEMs for the next several years and that both the company's commercial aerospace and automotive businesses should benefit from the trends in those industries favoring lightweighting and use of advanced materials.
However, the ratings also consider the lower growth rates in some of the company's other end-markets including industrial, packaging and building and construction. In addition, commercial transportation (12% of revenues) continues to experience revenue declines from lower heavy-duty truck build rates in North America.
Although the ratings consider the long-term positive fundamentals, they also reflect current end-market headwinds expected to be sustained over the near-term. In the aerospace sector, anticipated industry growth rates have moderated due to aircraft delivery delays, inventory de-stocking, pricing pressures, and production ramp-up challenges. In addition, greater EBITDA contribution in the time frame originally anticipated from the company's acquisition of Firth Rixson has taken longer than expected. The ratings acknowledge that the company is on plan to achieve its aggressive $650 million productivity initiative for 2016, however these initiatives are not expected to completely offset some of the aforementioned headwinds over the near-term.
Arconic's SGL-2 denotes a good liquidity profile. The company's liquidity profile post-separation is characterized by healthy cash balances, moderate free cash flow after cash outlays for investments following the company's recent lowering of capital expenditures guidance for 2017, and ample revolver availability.
The stable ratings outlook reflects our expectations of continued productivity gains and strong commercial aerospace and automotive fundamentals that will help counterbalance near-term headwinds and end-market challenges in some of the company's other end markets including industrial products and commercial transportation.
The ratings could be raised if debt/EBITDA declines to below 3.0 times on a sustained basis, FCF/debt exceeds 10% and the company maintains a good liquidity profile.
Ratings could be subject to downward pressure if the company were to maintain debt/EBITDA above 4.0 times beyond 2017, the company were to take on material, additional debt to finance acquisitions, dividends or share repurchases, or if Arconic's liquidity position were to weaken.
The principal methodology used in these ratings was Global Manufacturing Companies published in July 2014. Please see the Rating Methodologies page on www.moodys.com for a copy of this methodology.
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