CHICAGO--(BUSINESS WIRE)--Fitch Ratings has upgraded the ratings of RPM International, Inc. (NYSE: RPM), including the company's Long-Term Issuer Default Rating (IDR), to 'BBB' from 'BBB-'. The Rating Outlook was revised to Stable from Positive. A complete list of rating actions follows at the end of this release.
KEY RATING DRIVERS
The upgrade of RPM's ratings to 'BBB' reflects the company's improving credit profile and Fitch's expectation that it will maintain (or further improve) its financial and credit metrics. The resolution of the company's asbestos litigation and the elimination of the uncertainty as to RPM's potential lability related to those claims also factored in the ratings upgrade.
The ratings for RPM also reflect the company's well-balanced portfolio of products, geographic and end-market diversity, solid liquidity position, stable credit metrics and consistent free cash flow (FCF) generation. Risks include the cyclicality of the company's end markets, growth through acquisition strategy, and enforcement claims filed by the SEC against the company and its General Counsel.
STABLE CREDIT METRICS
The company's credit metrics have been relatively stable over the past cycle. In particular, RPM's leverage has stayed within a narrow band over the past 14 years, with debt/EBITDA between 2.2x and 2.8x during the FY2003-FY2016 period. For the LTM ending Aug. 31, 2016, debt/EBITDA stood at 2.3x. FFO-adjusted leverage was 3.1x for the LTM compared with 3.3x at FY2016 and 3.8x at FY2015 and FY2014. EBITDA/interest coverage was 9.8x for the Aug. 31, 2016 LTM period compared with 9.7x for FY2016, 8.2x for FY2015 and 7.4x for FY2014.
Fitch expects debt/EBITDA will settle between 2.0x-2.5x, FFO-adjusted leverage will be below 3.5x, and interest coverage will remain above 7.5x in the near- to intermediate-term.
GROWTH THROUGH ACQUISITION STRATEGY
Since 2006, RPM has spent about $1.3 billion on acquisitions, including $51.7 million for seven acquisitions in FY2016, $72.7 million for six acquisitions during FY2015, $39.5 million for four acquisitions in FY2014 and $404.3 million for six acquisitions during FY2013. Management estimates that about 60% of its growth over the past decade was attributed to acquisitions, with the remaining 40% from organic growth.
Fitch believes that RPM employs a disciplined process and acquires businesses with strong margins in markets they are familiar with. The company typically targets small, bolt-on acquisitions that are usually adjacent products and/or geographic extensions. Fitch expects RPM will continue to pursue acquisitions as part of its growth strategy.
ASBESTOS CONTRIBUTIONS
On Dec. 10, 2014, a bankruptcy plan was confirmed for RPM's subsidiary, Bondex International Inc. (Bondex), and its parent, Specialty Products Holding Corp. (SPHC), effective Dec. 23, 2014 (the effective date), allowing the subsidiaries to emerge from bankruptcy (filed in May 2010). In accordance with the bankruptcy plan, a trust was established under Section 524(g) of the U.S. Bankruptcy Code for the benefit of current and future asbestos personal injury claimants. The trust assumed all liability and responsibility for current and future personal injury claims, and the entities will have no further liability or responsibility for and will be permanently protected from such asbestos claims. The trust was initially funded with $450 million in cash and a promissory note, bearing no interest and maturing on or before the fourth anniversary of the effective date. The plan provides for the following additional contributions to the trust:
--On or before Dec. 23, 2016, an additional $102.5 million in cash, RPM stock or a combination thereof (at RPM's discretion in this and all subsequent cases);
--On or before Dec. 23, 2017, an additional $120 million in cash, RPM stock or a combination thereof;
--On or before Dec. 23, 2018, a final payment of $125 million in cash, RPM stock or a combination thereof.
The contributions to the trust are deductible for U.S. income tax purposes.
SOLID LIQUIDITY POSITION
RPM has solid liquidity and is able to meet its financial obligations, including the remaining installments to the asbestos trust. As of Aug. 31, 2016, the company had cash of $194.5 million (of which approximately $174.4 million was held at various foreign subsidiaries) and $781.6 million available under its $800 million revolving credit agreement (maturing in December 2019) and a $200 million accounts receivable securitization program (maturing in May 2017). Fitch believes that the company will continue to have access to its credit facilities, as RPM has sufficient cushion under its financial covenants. The company has no long-term debt maturities until February 2018, when $250 million of senior notes become due.
CONSISTENT FCF GENERATION
RPM generated $206.3 million of FCF (4.3% of revenues) for the LTM ending Aug. 31, 2016 compared with $213.1 million (4.4%) during FY2016, $108.8 million (2.4%) during FY2015, $58.7 million (1.3%) during FY2014 and $159.5 million (3.9%) during FY2013. The FCF during FY2014 includes a one-time General Services Administration (GSA)-settlement payment of $61.9 million. Fitch expects the company will generate FCF of about 2.5%-3.0% of revenues during the next few years.
PRODUCT AND END-MARKET DIVERSITY
The company has a well-balanced portfolio of products, including high-quality specialty paints, protective coatings, roofing systems, sealants and adhesives.
--Within its Industrial segment (51% of FY2016 revenues), management estimates that 50% of its sales are directed to the commercial and industrial repair and maintenance sector, while 50% are directed to the new commercial construction market.
--In its Consumer segment (34% of FY2016 revenues), 85% of sales are directed to the repair and maintenance sector while new home construction accounted for the remaining 15%.
--Within its Specialty segment (15% of FY2016 revenues), about 50% of specialty revenues come from coatings and OEM markets, 40% from the repair and maintenance sector and 10% from the new commercial construction market.
Management estimates that approximately 36% of RPM's net sales are generated from international markets.
CYCLICALITY OF RPM'S END MARKETS
RPM is exposed to cyclical end markets, including new residential and commercial construction and residential and commercial repair and maintenance. Management estimates that approximately 70% of worldwide sales are directed towards the repair and maintenance market, which is somewhat less volatile than the new construction market.
During the last U.S. economic and construction downturn, RPM's sales fell 7.6% during FY 2009, grew 1.3% during FY 2010 and then contracted 0.9% during fiscal 2011. RPM's EBITDA margins declined almost 250 bps during FY2009 but rebounded 200 bps during FY2010. Fitch expects continued growth in overall U.S. construction spending through 2017.
SEC INVESTIGATION
On Sept. 9, 2016, the SEC filed an enforcement claim against RPM and its General Counsel, Edward Moore, in connection with a 2014 investigation pertaining to the timing of RPM's disclosure and accrual of loss reserves in fiscal 2013 with respect to a previously disclosed GSA and Department of Justice investigation into compliance issues relating to Tremco Roofing Division's GSA contracts. The SEC alleges that Moore, who oversaw RPM's response to the investigation, did not inform RPM's CEO, CFO, Audit Committee, and independent auditors of material facts about the investigation.
As a result of Moore's conduct, the SEC alleges that RPM filed multiple false and misleading documents with the SEC. The SEC also alleges that RPM failed to disclose in its SEC filings a material weakness in its internal control over financial reporting and its disclosure controls when in fact such weakness existed. Consequently, RPM did not provide investors with accurate information about RPM's financial condition.
In August 2014, RPM restated its financial results for three quarters that occurred during the DOJ investigation and filed amended SEC filings for those quarters, disclosing the DOJ investigation and related accruals. In the restated filings, RPM also disclosed errors relating to the timing of its disclosure and accrual for the DOJ investigation. These restatements had no impact on RPM's audited financial statements for the fiscal years ended May 31, 2013 or 2014.
This action by the SEC could result in sanctions against RPM and/or its General Counsel and could impose substantial additional costs and distractions.
RPM believes that the allegations mischaracterize both the company's and Moore's actions in connection with this investigation and are without merit. The company's board has stood behind Moore and he will continue to serve as the company's General Counsel and Chief Compliance Officer. Management indicated that RPM will contest the allegations in the complaint vigorously.
KEY ASSUMPTIONS
Fitch's key assumptions within its rating case for the issuer include:
--Overall U.S. construction spending grows by mid-single-digits during 2016 and 2017;
--EBITDA margins remain relatively stable at around 14.5%;
--RPM generates FCF margins of 2.5%-3.0% during the next few years;
--The company uses cash on hand and FCF to settle its required asbestos contributions;
--Debt/EBITDA settles between 2.0x-2.5x and FFO-adjusted leverage is below 3.5x during FY2017 and FY2018;
--Interest coverage remains above 7.5x during the next few years.
RATING SENSITIVITIES
Positive: Future developments that may, individually or collectively, lead to positive rating action include:
--Debt reduction and/or EBITDA/FFO growth, resulting in sustained improvement in credit metrics, including debt/EBITDA consistently below 2x, FFO-adjusted leverage sustained under 3x, and EBITDA/interest coverage above 9x on a continuing basis.
Negative: Future developments that may, individually or collectively, lead to a negative rating action include:
--A sustained erosion of profits and cash flows either due to weak residential and commercial construction activity, loss of market share, or as the result of long-term higher raw material costs, leading to EBITDA margins sustained below 12%, debt/EBITDA sustained above 2.5x, FFO-adjusted leverage consistently exceeding 3.5x and interest coverage below 6x;
--Leveraged acquisitions which result in debt/EBITDA sustainably over 2.5x and FFO-adjusted leverage above 3.5x for an extended period;
--FCF margins consistently below 1% .
FULL LIST OF RATING ACTIONS
Fitch has upgraded the following ratings:
RPM International Inc.
--IDR to 'BBB' from 'BBB-';
--Senior unsecured debt to 'BBB' from 'BBB-';
--Unsecured revolving credit facility to 'BBB' from 'BBB-'.
The Rating Outlook is Stable.
Summary of Financial Statement Adjustments - Financial statement adjustments that depart materially from those contained in the published financial statements of the relevant rated entity or obligor are disclosed below:
--Historical and projected EBITDA is adjusted to add back non-cash stock-based compensation expense.
Additional information is available on www.fitchratings.com
Applicable Criteria
Criteria for Rating Non-Financial Corporates (pub. 27 Sep 2016)
https://www.fitchratings.com/site/re/885629
Additional Disclosures
Dodd-Frank Rating Information Disclosure Form
https://www.fitchratings.com/creditdesk/press_releases/content/ridf_frame.cfm?pr_id=1014436
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https://www.fitchratings.com/gws/en/disclosure/solicitation?pr_id=1014436
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https://www.fitchratings.com/regulatory
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