S&P Upgrades Akorn (AKRX) to 'B+'; Notes Progress Made in Remediating Material Weaknesses

S&P Global Ratings today raised its corporate credit rating on Akorn Inc. (Nasdaq: AKRX) to 'B+' from 'B' and removed the rating from CreditWatch. We originally placed the rating on CreditWatch with developing implications on Nov. 9, 2015, and revised the CreditWatch to positive on May 11, 2016. The outlook is stable.

At the same time, we raised the rating on the first-lien debt to 'B+' from 'B' and removed the rating from CreditWatch. The recovery rating is unchanged at 3, indicating our expectation for meaningful (50%-70%, at the lower end of the range) recovery in the event of a default.

"We raised the rating because the company is now current with its financial filings and has made progress in remediating material weaknesses in internal controls," said S&P global Ratings credit analyst Tulip Lim. Akorn has increased its headcount and has redesigned its processes, put in place new controls, and established systems to improve internal controls. For this reason, we have revised our management and governance score to fair from weak.

Our view of Akorn's business risk profile largely reflects its minimal scale and scope in the highly competitive generic pharmaceutical market. Akorn competes against much larger participants in the industry that have significantly greater financial capacity, and also with other smaller generic companies that have growing pipelines of abbreviated new drug applications (ANDAs) and proven track records of successfully integrating acquisitions. While the company specializes in niche generic formulations, we believe the comparatively higher margins of these products could spur greater competition over time.

The stable outlook reflects our expectation that despite a highly competitive environment for generic drugs, the company will generate high-single-digit revenue growth, mainly through organic growth. It also reflects our expectation that the company will continue to make progress in improving its internal controls and only make tuck-in acquisitions until material weaknesses in internal controls are remediated. Over time, we expect acquisitions of about $1 billion at this rating level.

We could lower the ratings if the company makes a sizable acquisition, which could cause leverage to be sustained above 5x. This could occur if the company spends more than $1.5 billion in acquisitions. We could also consider lowering the rating if additional government investigations or escalations in ongoing ones occur, unfavorable regulatory actions are taken, weaknesses in internal controls persist, or if the company experiences material operational setbacks, particularly if the pace of acquisitions increases and leverage is higher than it is currently.

We could raise the ratings if the company fully remediates all material weaknesses in internal controls as well as demonstrates a track record of producing organic growth. Additionally, the company would have to continue to generate solid discretionary cash flow and maintain leverage below 5x. If this were to occur, we could view the company more favorably than similarly rated peers, and could consider an upgrade.

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