CHICAGO--()--Fitch Ratings has upgraded Boston Scientific Corp.'s (NYSE: BSX) debt ratings as follows:
--Issuer Default Rating (IDR) to 'BBB-' from 'BB+';
--Unsecured bank credit facility to 'BBB-' from 'BB+';
--Senior unsecured notes to 'BBB-' from 'BB+'.
The rating action applies to approximately $4.9 billion of debt. The Rating Outlook has been revised to Stable from Positive.
The rating action is supported by the company's steady paydown of debt and its increasingly stable operations. From Sept. 30, 2010 through March 31, 2011, BSX has paid down roughly $1.1 billion of debt with free cash flow (FCF) (net cash flow from operations less capital expenditures) and proceeds from the divestiture of its Neurovascular business. As a result, leverage (total debt/EBITDA) decreased to 2.4 times (x) from 3.1x. In October 2010, Fitch revised BSX's Rating Outlook to Positive in anticipation of the company potentially operating with leverage sustainably below 2.5x.
BSX has stabilized its operations, particularly with regard to its Cardiac Rhythm Management (CRM) business, which includes its implantable cardioverter defibrillator (ICD) franchise. The company has recaptured some of the U.S. market share loss that was caused by a 30-calendar day U.S. ship-hold on its ICDs that ended in April 2010. Profitability within BSX's drug-eluting stent (DES) business should continue to improve with the announced market exit of a competitor and the expected 2012 introduction of its Promus Element (PE) stent in the U.S. and Japan. PE sales are significantly more profitable than the sales of its currently marketed Promus stent.
The key rating drivers for this credit are leverage, EBITDA margins, FCF and general operational stability. The 'BBB-' leverage range for this credit is approximately 2.0x-2.5x. Margin variability of less than 300 basis points and material FCF generation are also expected.
ICD BUSINESS STABILIZING:
Fitch believes BSX will be able to maintain its current U.S. ICD share, given the positive attributes of its products, the relative sticky nature of client relationships, and new product introductions in this segment. BSX's domestic ICD share bottomed around June 30, 2010, shortly after the ship-hold period ended. The company has since recaptured roughly half of its lost share. Longer term, the FDA's approval for the expanded use of BSX's ICDs in patients with less severe forms of heart failure should incrementally help growth and margins for this segment.
IMPROVED PROFITABILITY PROSPECTS FOR DES BUSINESS:
New product flow should help to increase the profitability of BSX's stent business. The company expects to launch PE into the U.S. and Japanese markets in mid-2012. The expected share shift to PE from BSX's current platform will improve the company's DES margins. However, domestic and European pricing/margin pressures will likely persist in the near term, with BSX bucking the trend because of the expected favorable mix-shift to PE.
While BSX should benefit from margin expansion in its DES franchise, tight pricing is challenging DES revenue growth. Procedural volume for stents has moderated, in part because of the weak employment environment, which will likely persist in the near term. A recently published study that suggests that some DES use is unnecessary may also modestly weigh on growth during the next 12 months. However, Johnson & Johnson (JNJ) announced it would exit the DES market by the end of 2011. This starts the race to capture roughly $400 million in annual global sales left by JNJ's market exit.
STEADY PERFORMANCE FROM OTHER BUSINESSES:
Fitch expects revenue growth for BSX's Endosurgery, Electrophysiology and Neuromodulation businesses to persist. Moderate procedure growth and only incremental pricing pressure remain supportive for profitable growth in these segments. In addition, BSX remains committed to investing in new product development for these businesses.
LITIGATION AND REGULATORY CONCERNS:
BSX has resolved a significant number of litigation issues during the past two years, including a $1.725 billion cash settlement paid to JNJ in 2010 to end three patent lawsuits. However, financial risk related to other litigation remains. The good news for the company is that recent court decisions have ruled against JNJ regarding patent lawsuits involving BSX.
While the healthcare reform-related 2.3% excise tax (beginning in 2013) on U.S. device sales is expected to pressure margins by approximately one percentage point, Fitch believes BSX's focus on cost reduction and the continued development of new value-added, higher margin devices will help to mitigate this risk.
Healthcare reform should also result in moderate volume increases in 2014-2016, when the bulk of the uninsured are expected to obtain coverage. Though the Centers for Medicare and Medicaid Services (CMS) has not yet written all of the rules and regulations for the reform law, Fitch does not expect the ultimate implementation of healthcare reform to affect BSX's credit rating.
PRIORITIES FOR CASH:
Fitch expects BSX will generate $1 billion to $1.2 billion in FCF in 2011, excluding approximately $300 million in litigation payments. Fitch believes BSX's acquisition strategy will remain targeted, focusing on areas that offer innovation and growth. BSX will likely consider share repurchases in lieu of debt reduction, once its leverage remains consistent with the 'BBB-' rating category. Fitch anticipates FCF will be sufficient to fund targeted acquisitions and, potentially, share repurchases. As such, Fitch expects BSX will operate with leverage (total debt/EBITDA) ranging between 2.2x-2.4x during 2011-2012.
FCF for the latest 12-month period (LTM) ending March 31, 2011 was $240 million, which includes a $750 million cash litigation payment to Johnson & Johnson and $296 million payment to the U.S. Department of Justice. At March 31, 2011, BSX had approximately $595 million in cash/short-term investments; full availability on its $2 billion revolver, maturing on June 30, 2013; and full availability on its $350 million 364-day accounts receivable facility, maturing in August 2011. The company had approximately $4.95 billion in debt, with roughly $50 million maturing in 2012, $700 million in 2013, $600 million in 2014, $1.25 billion in 2015, and $600 million in 2016.
Additional information is available at www.fitchratings.com.
Applicable Criteria and Related Research:
--'Corporate Rating Methodology' (Aug. 16, 2010).
Applicable Criteria and Related Research:
Corporate Rating Methodology - Amended