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S&P Revises Outlook on Michaels Cos. (MIK) to Positive; Ratings Affirmed

June 27, 2016 4:58 PM EDT

S&P Global Ratings revised its outlook on The Michaels Cos. Inc. (Nasdaq: MIK) to positive from stable. We also affirmed our 'B+' corporate credit rating on the company.

At the same time, we raised our issue-level rating on Michaels' $1.6 billion bank loan and its $850 million ($700 million outstanding) term loan B to 'BB' from 'BB-' and revised the recovery rating to '1' from '2', indicating our expectation for very high (90% to 100%) recovery in the event of a payment default.

We also affirmed the 'B-' issue-level rating on the company's $510 million senior subordinated notes due 2020. The '6' recovery rating, which indicates our expectation that noteholders would receive negligible recovery (0% to 10%) in the event of a payment default, remains unchanged.

"The outlook revision reflects the potential that we could raise our ratings on Michaels over the next 12 months if good operating performance, driven by successful merchandising, and improving credit metrics trends, including lower leverage and consistent free cash flow generation, continue throughout the second half of fiscal 2016," said credit analyst Declan Gargan.

The positive outlook reflects our expectation for consistent gains in operating performance to continue as management executes on its plan to develop new merchandise and implements a flexible display space across its store base to highlight new and seasonal goods. We expect earnings growth and good free cash flow generation to continue over the next 12 months, causing credit protection metrics to strengthen.

We could raise our ratings if Michaels continues to achieve operational performance gains, including positive comparable-store sales growth of at least 2.0% and stable margins, leading to earnings growth and leverage improving to the low-4.0x area and FFO to debt around 15% on a sustained basis. Given the seasonality of the business, with approximately 35% of adjusted EBITDA generated in the fourth quarter, Michaels will need to demonstrate second half results in line with or ahead of our expectations, with continued stable financial policies, before we would consider an upgrade.

We would consider revising our outlook to stable if the company's operating performance slows during the second half of the year, whether from merchandising missteps, poor holiday season results, or integration issues with Lamrite West. At that time, leverage could weaken to the high-4.0x area. Under this scenario, a 10% decrease in EBITDA levels from our current projections could cause credit protection measures to weaken to this level. Michaels continues to be majority owned by financial sponsors Blackstone and Bain and we would also consider a negative rating action if a sponsor-led debt financed transaction were to be announced.



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