Moody's Lifts Outlook on Reliance Steel (RS) to Stable; Unsecured Rating Affirmed

Moody's Investors Service changed Reliance Steel & Aluminum Co's (NYSE: RS) outlook to stable from negative. At the same time, Moody's affirmed Reliance's Baa3 senior unsecured rating. The change in outlook reflects the recent improvement in the company's credit metrics and liquidity and the expectation they will remain at a level that is commensurate with its current investment grade rating.

The following ratings were affected in this rating action:

Outlook Actions:

Changed to stable from negative

Affirmations:

Senior Unsecured Notes due 2016, Baa3

Senior Unsecured Notes due 2023, Baa3

Senior Unsecured Notes due 2036, Baa3

Senior Unsecured Shelf due 2016, (P)Baa3

RATINGS RATIONALE

Reliance Steel's Baa3 senior unsecured rating reflects its industry leading operating margins, relatively consistent retained cash flow generation, effective working capital management and countercyclical working capital needs, successful record of growth through internal initiatives and well-executed acquisitions, and scale and diversity that are consistent with an investment grade company. Reliance has established a track record of efficient inventory management, operating cost control, effective branch office management and reliable and high quality service, which are key success factors for metal distributors. The company's rating is constrained by its ongoing debt financed acquisition program, which along with other shareholder returns in the form of dividends and opportunistic share repurchases have led to periodic increases in its leverage ratio. However, Reliance has historically used its free cash flow to reduce its leverage to a level that is commensurate with its investment grade rating. The cyclicality and intensely competitive nature of the metal service center industry also constrain the rating.

Reliance's credit metrics and liquidity improved in 2015 despite poor industry conditions marked by deteriorating product prices and lackluster end market demand. Steel and metals prices declined throughout the year and end market demand was relatively weak driven by significant declines in the energy and mining sectors and softening industrial demand. As a result, Reliance's tons sold declined by 3.2% and its average selling price dropped by 10.3% on a same store basis. However, this was tempered by the beneficial impact of the use of LIFO (last in first out) inventory accounting in a declining price environment. Lower product purchase costs resulted in a $117 million reduction in its cost of sales from a positive LIFO inventory accounting adjustment versus a negative adjustment of about $55 million in 2014. Therefore, Reliance produced adjusted EBITDA of $896 million in 2015 versus $921 million in 2014.

Due to the company's countercyclical working capital needs, it was able to generate a little more than $1.0 billion in cash flow from operations in 2015 despite the weak market conditions. The company spent a portion of these funds on shareholder friendly initiatives such as share repurchases ($356 million) and dividends ($120 million), but also reduced debt by $377 million. This enabled Reliance to reduce its adjusted leverage ratio (Debt/EBITDA) to 2.5x in December 2015 from 2.8x in December 2014. It also enabled it to raise its total liquidity by $342 million.

Reliance has a good liquidity profile with a cash balance of $104 million and borrowing availability of $1.2 billion as of December 31, 2015. The company has a $1.5 billion unsecured revolving credit facility that matures in April 2018. It had $332 million of outstanding borrowings and $57 million of letters of credit issued on the facility as of December 2015. Moody's expects the company's liquidity to contract modestly in 2016 due to the recent acquisition of Tubular Steel, Inc., but Reliance should maintain a good liquidity profile.

The stable outlook reflects our expectation that Reliance's liquidity will remain good and its credit metrics commensurate with its investment grade rating even if its operating results and credit metrics deteriorate modestly in 2016.

Reliance's significant exposure to cyclical industries, and its growth-by-acquisition strategy are factors that constrain the rating and limit the potential for an upgrade. However, the rating could be upgraded if its adjusted leverage ratio declined to 2.0x on a sustainable basis or its retained cash flow (funds from operations minus dividends) remained consistently above 30% of total debt.

Reliance's rating could be pressured by an increase in its leverage ratio above 3.0x, although the specifics surrounding the increase in leverage would be considered. For example, if leverage was increased to complete an acquisition then Moody's would consider the earnings and cash flow of the assets acquired, the consideration paid, the pro forma liquidity profile and the overall industry environment at the time of the acquisition. Other factors that could put pressure on the rating include a decline in Reliance's adjusted interest coverage ratio (EBITA/Interest Expense) below 5.0x.

The principal methodology used in these ratings was Distribution & Supply Chain Services Industry published in December 2015. Please see the Ratings Methodologies page on www.moodys.com for a copy of this methodology.

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