CHICAGO--(BUSINESS WIRE)--Fitch Ratings has rated Hewlett-Packard Company's (HP) $5 billion delayed draw senior unsecured term loan at 'A-'. HP will use borrowings under the term loan for general corporate purposes, including funding expenses related to the company's planned separation by the end of the current fiscal year ending Oct. 31, 2015.
Commitments under the term loan will be available until the earlier of Nov. 1, 2015, or the date of the separation with certain fees and reduced unutilized commitment amounts for extensions beyond Nov. 1, 2015. The ratings for HP and its wholly-owned subsidiary, Electronic Data Systems LLC (EDS), are on Rating Watch Negative and a full list of current ratings follows at the end of this release.
The Negative Watch continues to reflect Fitch's expectations for lower business diversification, increased operating volatility at HP Enterprise (HPE)from lower recurring revenue, risks from dis-synergies (including procurement) and uncertainty regarding the ultimate liquidity profile and capital structure at HP Inc. (HPI) and HPE, pro forma for the split.
The Negative Watch also reflects Fitch's belief that there is minimal strategic rationale for HPI to maintain a strong investment grade rating and potential for debt-financed acquisitions at HPE, given lower pro forma free cash flow (FCF).
Fitch expects overall organic revenue trends to stabilize in fiscal 2015, driven by demand strength in industry standard servers (ISS), notebooks and converged storage. These trends will offset weakness in networking, Enterprise Services, and printers, and result in flat- to slightly-lower growth, on a constant currency basis. Nonetheless, significant foreign currency translation headwinds will result in low- to mid-single-digit negative revenue growth.
Fitch expects HP to augment organic growth with acquisitions, including the company's proposed purchase of wireless networking company, Aruba Networks, Inc. (Aruba), for $2.7 billion in an all-cash deal. This deal would add $800 million to $1 billion of annual revenues, although growth rates for Aruba are anticipated to be robust over the intermediate term. HP expects the deal to close in the second half of 2015 and is subject to customary regulatory approvals.
The company's restructuring efforts will limit profit margin compression and Fitch expects operating income margin to remain in the high single digits. Significant cash charges related to the foreign currency headwinds and the separation will meaningfully reduce FCF (Fitch defined) to $3.5 billion to $4 billion for fiscal 2015, following more than $7 billion in each of the past two fiscal years.
The company will use cash flow for share repurchases and dividends, resuming its shareholder-returns target. Given the company generates nearly two-thirds of sales offshore and Fitch's assumption that the vast majority of cash is located overseas, Fitch believes debt levels could increase slightly to support shareholder returns in fiscal 2015.
Nonetheless, Fitch expects credit protection measures will remain solid for the ratings. For the latest 12 months (LTM) ended Jan. 31, 2015, Fitch estimates core leverage (total debt to operating EBITDA excluding debt related to the financing business) of 0.6 times (x), while total debt to operating EBITDA unadjusted for financing debt was 1.4x.
HPI will consist of HP's Printing (consumer and commercial hardware, supplies and managed print services) and Personal Systems (consumer and commercial notebooks, desktops, workstations and tablets) segments, which Fitch expects will represent just under half of HP's total revenues for fiscal 2015 with operating profit margin just under 10%.
HPE will consist of HP's Enterprise Group (servers, storage, networking and technology services), Enterprise Services (infrastructure technology outsourcing, and application and business services), Software, and HPFS segments, which Fitch expects will represent 51% of total revenues in fiscal 2015 with operating income margin just over 10%.
Fitch expects HPI will assume the vast majority of HP's existing core debt ($8.2 billion at Jan. 31, 2015), reflecting HPI's lower inorganic growth opportunities and stronger FCF profile from lower capital intensity and cash conversion cycle and greater recurring revenue. Fitch assumes HPE will assume all debt associated with HP Financial Services ($10.9 billion at Jan. 31, 2015).
KEY RATINGS DRIVERS
HP's ratings and Outlook reflect:
--Solid liquidity provided by nearly $12.9 billion of cash (primarily offshore), $7.5 billion of undrawn committed credit facility capacity, and consistent annual FCF (post dividends) in excess of $5 billion for the past four fiscal years;
--Significant reduction in core debt;
--Strong worldwide market share, including leading unit market share in servers and printers and second largest share in PCs, IT services and networking;
--More than 30% of HP's total revenue is recurring, primarily via printer supplies, outsourcing and technology services, and software maintenance;
--Geographically diversified revenue base with majority of revenue derived from outside the U.S.
Ratings concerns center on:
--Sustainability of PC demand as commercial migrations attributable to Microsoft's end of support for Windows XP subsides;
--Aggressive industry pricing pressure in PCs and servers that has pressured profitability, mitigated by HP's realization of cost savings from restructuring actions;
--Long-term hardware revenue and profitability pressures if commercial customers aggressively adopt cloud computing in lieu of on-premise and the market for cloud services remains highly concentrated;
--Event risk in terms of significant acquisitions;
--Continued profitability pressures in HPE;
--Potential dis-synergies related to the separation, particularly in procurement, that could prove difficult and may place HPI and HPE at a competitive disadvantage relative to larger rivals, such as Lenovo Group (Lenovo) and Dell Inc. (rated 'BB' with a Positive Outlook by Fitch).
Fitch believes liquidity was solid at Jan. 31, 2015 and supported by:
--$12.9 billion of cash and cash equivalents (primarily offshore); and
--$7.5 billion of undrawn committed credit facility capacity.
Fitch's expectations for strong FCF (post dividends) in excess of $5 billion beyond the near-term also support liquidity. The term loan also provides near-term liquidity to fund separation related expenses.
HP's revolving credit facilities consist of a $4.5 billion credit facility expiring in April 2019 and a $3 billion facility expiring in March 2017. Minimum interest coverage of 3x is the sole financial covenant.
Total debt was $19.1 billion as of Jan. 31, 2015, consisting of short-term debt of $3.5 billion (primarily the current portion of long-term debt) and long-term debt of $15.6 billion.
KEY ASSUMPTIONS
--Revenues decline by mid-single digits in fiscal 2015, reflecting relatively flat constant currency growth and significant FX headwinds. Strength in ISS, notebooks, converged storage will offset weakness in Networking, Enterprise Services, and Printers to achieve flat growth on a constant currency basis.
--Profitability expands slightly through the forecast period, due to past restructuring and strengthening mix.
--FCF of $3.5 billion from significant cash charges associated with separation and FX headwinds.
--Half of FCF used for share buybacks and dividends, potentially resulting in higher core debt levels given that a majority of FCF is generated overseas.
Fitch maintains the Rating Watch Negative on the following ratings:
Hewlett-Packard Company
--Long-term Issuer Default Rating (IDR) 'A-';
--Short-term IDR 'F2';
--Senior credit facilities 'A-';
--Senior unsecured debt 'A-';
--Commercial paper (CP) 'F2'.
Hewlett-Packard International Bank PLC
--Short-term IDR 'F2';
--CP 'F2'.
Electronic Data Systems LLC
--Long-term IDR 'A-';
--Senior unsecured debt 'A-'.
Additional information is available at 'www.fitchratings.com'.
Applicable Criteria and Related Research
--'Corporate Rating Methodology' (May 28, 2014).
Applicable Criteria and Related Research:
Corporate Rating Methodology - Including Short-Term Ratings and Parent
and Subsidiary Linkage
http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=749393
Additional Disclosure
Solicitation Status
http://www.fitchratings.com/gws/en/disclosure/solicitation?pr_id=984227
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