S&P Affirms Corp. Rating on Auxilium Pharma (AUXL); Still Sees 'Weak' Liquidity Amid QLT (QLTI) Merger

Standard & Poor's Ratings Services affirmed its 'CCC' corporate credit rating on Auxilium Pharma (Nasdaq: AUXL) following the company's announcement that it had obtained an amendment to its credit agreement permitting the change of control associated with the company's proposed merger with a Canadian biotechnology firm QLT Inc. (Nasdaq: QLTI). The outlook is negative.

We also affirmed the 'CCC+' issue-level rating on the company's senior secured first-lien credit facility. The '2' recovery rating remains unchanged and reflects our expectation for substantial (70%-90%) recovery in the event of payment default.

"The rating affirmation reflects our belief that liquidity remains "weak", despite the merger with QLT and expected increase in balance sheet cash," said credit analyst Maryna Kandrukhin. "The amendment has a strict financial covenant schedule for the maximum permitted first-lien net leverage ratio effective in the first quarter of 2015. There is an aggressive step-down in the second quarter. We believe Auxilium will be challenged to meet the financial covenant requirement because revenue growth and cost control over the next three quarters might not be sufficient to generate the EBITDA necessary for covenant compliance."

The negative outlook reflects our belief that Auxilium could be challenged to meet the financial covenant requirement introduced by the amendment, despite the increase in balance sheet cash that will result from the transaction.

Downside scenario

We could lower the rating if Auxilium is unable to either meet or amend its covenant tests in the first half of 2015. Under our base-case forecast, we estimate Auxilium will generate around $25 million in annualized EBITDA, versus more than $40 million required to meet the test. We could also lower the rating if the company uses cash faster than we currently estimate. In our view, low-single-digit revenue growth coupled with continued margin erosion in 2015 could cause us to believe the company will likely deplete its cash within the next year, which could cause us to lower the rating.

Upside scenario

While unlikely, we could raise our rating to 'CCC+' if Auxilium generates sufficient EBITDA to meet its net leverage covenant requirement. This would result from product performance and cost control that is better than we expect, resulting in EBITDA growth that is at least $15 million higher than our current expectations. Under this scenario, we would also need to believe that the company could generate at least breakeven cash flow. This would alleviate the threat of a liquidity event over the next 12 months.

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