Moody's Investors Service, Inc. (Moody's) placed all ratings of Pentair Finance SA (Pentair) under review for downgrade, including the Baa2 long-term and P-2 short-term ratings. This review follows the company's announcement to acquire privately-held ERICO International Corporation (ERICO) in an all-debt transaction valued at approximately $1.8 billion.

The transaction is expected to close by year-end, subject to customary regulatory and shareholder approvals. Moody's anticipates that a downgrade, if any, would likely be limited to one-notch, to Baa3 and Prime-3, based on the expectation that the majority of Pentair's substantial free cash flow will be applied to debt reduction.

RATINGS RATIONALE

The acquisition of ERICO is expected to increase Pentair's pro forma debt-to-EBITDA to over 4x from approximately 3x as of June 30, 2015 with free cash flow-to-debt falling to the mid-single digit range, both weak for the Baa2 rating level.

The rating review will focus on: 1) the challenges currently facing Pentair's base business, namely its Valves & Controls segment (approximately one-third of total revenues), 2) near-to-intermediate term expectations for Pentair's remaining three operating segments in projecting the pace and magnitude of the combined entity's de-leveraging prospects, 3) the timing and scope of potential merger synergies and diversification benefits and 4) the prospects for further meaningful transactions or changes in the capital structure during the anticipated de-leveraging period.

Pentair's first-half 2015 performance has been weak driven by the steep decline in oil prices. Roughly 50% of revenues are experiencing headwinds with Valves & Controls facing more serious, fundamental challenges. Oil and gas-related revenues (roughly 20% of total revenues) continue to endure project delays and even cancellations, resulting in excess capacity and increasing price competition. The energy sector's near-to-intermediate term outlook is very weak with no catalyst for improvement on the horizon. In addition, several key industrial end markets are softening, driven by growing uncertainty that is translating into a pullback in capital expenditures. As a result, the company is accelerating cost reductions in anticipation of continued weak volumes and volatility. Pentair has highly effective lean initiatives (PIMS) and has had proven success at integrating acquisitions (Tyco Flow Control). While Moody's doesn't expect these more recent initiatives to gain traction until 2016, margins and cash flow generation should be solid for 2015, with Moody's adjusted free cash flow likely to be well in excess of $300 million. This Moody's projected level reflects continued operating concerns for the remainder of the year.

These pressures, in conjunction with the steady rise in debt since year-end 2012, have weakened Pentair's position within the Baa2 rating level. Further, the nearly $2 billion in incremental debt for this acquisition comes at a time that Pentair's business model is vulnerable, consequently raising the company's risk profile.

Ratings placed under review for downgrade:

Pentair Finance SA:

Senior unsecured notes at Baa2

Short-term rating for commercial paper at Prime-2

Pentair, Inc.

Senior unsecured notes at Baa2