Fitch Ratings has downgraded the ratings, including the
long-term Issuer Default Rating (IDR), for Harsco Corporation
(Harsco) (NYSE: HSC) to 'BB+' from 'BBB-'. The Rating Outlook is
Stable. Fitch's actions affect $1.3 billion of total debt,
including the revolving credit facility (RCF).
The ratings and outlook reflect Fitch's expectations for
sustained negative annual free cash flow (FCF) higher total
leverage (total debt to operating EBITDA) through the
intermediate-term as Harsco continues its turnaround.
Fitch expects weaker than previously forecasted revenue growth
and profitability resulting in negative FCF in 2015 and through the
forecast period, versus Fitch's previous expectations for positive
FCF in 2015 and annual FCF exceeding $50 million the forecast
period. Fitch expects Harsco may support negative FCF with
increased borrowings under the RCF, given nearly all of the
company's cash is located overseas.
Fitch expects total leverage will exceed 2.5x through the
through the forecast period, given expectations for negative annual
FCF. For 2015, Fitch estimates total leverage of 3.2x and the
completion of restructuring and resumption or revenue growth should
drive total leverage below 3x by 2016.
Nonetheless, Harsco's turnaround should drive structurally
higher profit margins beyond 2015. Harsco's restructuring plan,
Project Orion, is on track with the company having completed 75% of
organizational changes and addressed 50% of all under-performing
sites. As a result, Fitch forecasts roughly 300 basis points of
operating EBITDA margin expansion through the intermediate-term,
despite near-term macroeconomic and currency related headwinds.
By segment, Fitch expects lower revenues from Metals, driven by
foreign exchange headwinds, lower steel output in aggregate and
lower metals prices. Profit margins will remain pressured by
temporary costs but Fitch anticipates lower capital spending will
support cash flow for the segment.
Fitch expects lower short-term revenues for Industrial, given
pressured capital spending in oil markets. However, a growing
backlog and anticipation for capital spending returning to
normalized levels, in addition to new products, will drive low- to
mid-single-digit growth over the intermediate term. Restructuring
actions should support profit margins in the Industrial segment,
although investments in new products may constrain cash flow
growth.
Fitch expects the Rail segment to improve beginning in the
second half of 2015, driven by a solid backlog. The company also
points to significant international contracts coming up for bid to
support intermediate-term growth, given Harsco's leading market
positions. Lower customer advances may constrain cash flow for the
segment through the intermediate term.
Fitch expects $34 million of pension contribution in 2015 after
making a $36 million contribution in 2014. Harsco's net pension
obligations increased to $351 million at the end of 2014, up from
$238 million at the end of 2013. The increase was attributed to
lower discount rates and the adoption of new mortality tables.
Qualified U.S. and U.K. plans were 72% and 75% funded,
respectively, at the end of 2014.
KEY RATING DRIVERS
Rating concerns include:
-- Fitch's expectations for negative annual FCF through the
intermediate term, driven by weak operating performance in Metals
and lower demand in the Industrial segment. Fitch expects operating
performance in Metals will strengthen as the company achieves costs
savings from its ongoing restructuring and efficiency
initiatives;
-- Expectations for sustained higher total leverage over at
least 2.5x, despite Harsco's historically conservative financial
policies, given lower profitability and negative FCF;
-- Subdued top-line growth prospects in Metals over the
intermediate term, given low global steel production, sales
declines from exiting underperforming contracts and weak commodity
prices for both Metals and Industrial.
The ratings are supported by:
-- Fitch's expectations for the company's operating performance
to strengthen with an improving sales mix from re-pricing or
exiting underperforming contracts and increased efficiencies
following the completion of the turnaround in Metals;
-- Strong market positions in core growth end markets, including
resource recovery and environmental services.
-- Fitch's expectations for faster growing non-Metals
businesses, Industrial and Rail, which should represent roughly 35%
of total revenues but more than 65% of projected contribution
margin, to strengthen Harsco's operating profile over time.
RATING SENSITIVITIES
Negative rating actions could occur if Fitch expects:
-- Total leverage will remain above 3x through the intermediate
term, driven by structurally weaker profitability; or
-- Negative revenue growth and less than forecasted profit
margin expansion in 2016-2017, indicating insufficient
restructuring at the Metals business or weaker than anticipated
operating trends in Industrial and Rail.
Positive rating actions are unlikely in the absence of Fitch's
expectations for:
-- Sustained positive revenue growth through the cycle in the
Metals segment and solid long-term growth in Industrial and Rail;
and
-- Harsco's commitment to maintaining total leverage closer to
2x by moderating borrowings with consistent positive annual FCF
through the cycle.
KEY ASSUMPTIONS
-- Metals segment returns to positive revenue growth in 2017 and
reduces negative revenue growth to mid-single digits in 2016;
-- Longer-term revenue growth for Rail and Infrastructure are
+3% although Fitch anticipates stronger Rail growth in 2015 and
2016;
-- Harsco achieves targeted cost savings of $35 million to $40
million in 2016, resulting in profit margin expansion despite
negative revenue growth through 2016;
-- Capital spending is 9% of revenues in 2016-2017, while
customer advances are flat at lower levels;
-- Dividends are flat while the company makes no share
repurchases through the forecast period.
As of March 31, 2015, total liquidity was sufficient and
consisted of:
-- $67 million in cash and cash equivalents (all but $3 million
of which was located outside the U.S.);
-- $353 million available under the $500 million senior
unsecured RCF expiring in 2017.
Fitch expects liquidity will support negative annual FCF through
the intermediate term. Fitch believes Harsco could use cash for
smaller acquisitions but share repurchases will be minimal through
the completion of restructuring.
Total debt was $920 million at March 31, 2015 and included:
-- $147 million of borrowings under the RCF;
-- $250 million of senior notes maturing on Oct. 15, 2015;
-- $450 million of senior notes due 2018;
-- $70 million of other borrowings.
Fitch has assigned 'RR4' Recovery Ratings for Harsco's senior
unsecured RCF and senior unsecured notes. Fitch assumes persistent
operating weakness rather than onerous debt service would drive the
company to reorganization. Fitch believes this weakness would
involve exiting incremental metals contracts and reduced
competitiveness of new products in industrial markets. Fitch
assumes a reorganization operating EBITDA of $175 million and a
reorganization multiple of 4x, resulting in a reorganization value
yielding RR4 recovery ratings on the senior unsecured debt.
Fitch has downgraded the following ratings for Harsco:
Harsco Corporation
-- IDR to 'BB+' from 'BBB-';
-- Senior unsecured RCF to 'BB+/RR4' from 'BBB-';
-- Senior unsecured debt to 'BB+/RR4' from 'BBB-'.
Fitch also has withdrawn the rating on the previously offered
$250 million senior notes.
The Rating Outlook is Stable.
Additional information is available on www.fitchratings.com.
Applicable Criteria
Corporate Rating Methodology - Including Short-Term Ratings and
Parent and Subsidiary Linkage (pub. 28 May
2014)https://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=749393
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Fitch Ratings, Inc.Primary AnalystJason Pompeii,
+1-312-368-3210Senior Director70 West Madison StreetChicago, IL
60602orSecondary AnalystEric Ause, +1-312-606-2302Senior
DirectororCommittee ChairpersonCraig Fraser,
+1-212-903-0310Managing DirectororMedia Relations, New YorkAlyssa
Castelli, +1-212-908-0540alyssa.castelli@fitchratings.com