Fitch Affirms DASA's Ratings; Outlook Stable

CHICAGO & RIO DE JANEIRO--()--Fitch Ratings has affirmed the following ratings of Diagnosticos da America S.A. (DASA):

--National Scale rating at 'AA(bra)';

--Local debentures due to 2016, 2018 and 2020 at 'AA(bra)'.

The corporate Rating Outlook is Stable.

In addition, Fitch has affirmed and withdrawn the following rating for DASA:

--Foreign and Local currency Issuer Default Rating (IDR) at 'BB+';

Fitch has chosen to withdraw these ratings for commercial reasons.

KEY RATING DRIVERS

DASA's credit ratings reflect its leading position in the Brazilian medical diagnostics industry, its strong and diversified portfolio of services and cash flow diversification from multiple counterparties, as well as its track record of a strong credit profile supported by an adequate leverage and liquidity position.

Currently DASA has an important medium-term challenge to recover its operating margins which are well below its immediate peers in the local market. The inability to recover EBITDAR margins above 19% in the medium term or any market-share erosion would lead to downward pressure on its ratings.

The struggling macroeconomic scenario in Brazil, in which the increasing inflation and unemployment rate and lower disposable income level might impact the level of private health care beneficiaries, will limit demand growth for DASA's services. This should pose some challenge to DASA's ability to dilute SG&A costs and improve profitability. DASA has a track record of solid cash flow generation and adequate capital structure which should allow the company to weather this negative environment without significantly hurting its credit profile in the short term. Nevertheless, the maintenance of its current poor profitability level for a longer period of time will lead to a deterioration of its business and financial profile and consequently of its ratings.

Operating Margin Deterioration

DASA's change in business strategy along with inflationary pressures and its inability to pass along higher costs have led the company to operate under a new profitability level. The company has shown inefficiencies in managing SG&A expenses, which are high compared to its peers. Since mid-2011, the company has taken several initiatives to improve customer service, along with medical proficiency and efficiency, which has resulted in greater costs and expenses. Fitch's base case scenario forecasts DASA's EBITDAR margin to move to around 19%, a significant drop from the 25% average between 2010 and 2011.

DASA generated BRL578 million of EBITDAR during 2014, a slight increase of 3% compared to 2013. EBITDAR margin declined slightly to 21.4% from an average of 22.3% in 2013 and 2012, reflecting the higher inflationary costs, discounts and increased disallowances associated with few clients in the public and private segment. For the LTM period ended March 31, 2015, DASA's EBITDAR was BRL528 million, while its margin was 19.7%.

Free Cash Flow (FCF) Expected to Be Pressured in 2015 and 2016

As of March 31, 2015, DASA generated funds from operations (FFO) of BRL258 million and cash flow from operations (CFFO) of BRL213 million. These figures compare to BRL322 million of FFO and BRL265 million of CFFO in 2014. Weaker FFO generation plus increasing investments for equipment renewal, IT systems, and opening and expansion of units resulted in negative FCF of BRL3 million in March 2015 (LTM), reversing a trend of two years of positive FCF . Fitch expects DASA to generate negative FCF in 2015 of around BRL130 million, also pressured by higher working capital needs, and with a reduction to negative FCF of around BRL20 million in 2016 as the agency believes DASA's operating margins will remain under pressure during this period while its investments will continue to be high.

Leverage to Peak in 2015

DASA has a good track record of maintaining an adequate capital structure, demonstrated by its four-year (2011-2014) average net adjusted debt/EBITDAR ratio of 2.6x. As of the LTM March 31, 2015, the company's net adjusted debt/EBITDAR peaked at 3.0x, reflecting the combination of weaker profitability and moderate increase in net debt. Fitch's base case indicates net adjusted leverage of 3.0x in 2015 with a gradual decline to 2.5x in the next three years as a result of improved services levels and more disciplined cost management.

Strong Business Position; Higher Counterparties Risk

DASA is the largest company in Brazil's fragmented medical diagnostic industry, with an estimated market share of 12%. The company's size, multi-brand portfolio, and broad geographic diversification are considered by Fitch to be competitive advantages that support the ratings. Besides the outpatient and inpatient services, which represent around 83% of the company's revenues, DASA also operates lab-to-lab services (11% of its revenues) and offers services to public entities. Fitch sees as credit positives the long-term focus of DASA's current shareholders, as well as its conservative track record in managing business in the healthcare industry. The company's management has passed through different phases over the last five years. Fitch does not expect any relevant acquisition in the short term as DASA is focused on organic growth and on improving its cost structure.

The company has a track record of a diversified portfolio of payers, nevertheless the past years of consolidation in the Brazilian healthcare supplementary sector has resulted somewhat in greater counterparty concentration in DASA's client portfolio.

KEY ASSUMPTIONS

Fitch's key assumptions within the rating case for the issuer include:

--Revenue growth in the low single digits pressured by weaker services volumes;

--EBITDAR margins at around 19%-20%;

--Capex of BRL250 million in 2015 and BRL200 million in 2016;

--Minimum dividends of 25%;

--No short-term acquisitions.

RATING SENSITIVITIES

Positive: Future developments that may, individually or collectively, lead to a positive rating action include:

--Successful recovery of EBITDA margins above 19%, on a sustainable basis

--Maintenance of strong financial profile, underpinned by net adjusted debt/EBITDAR consistently below 2.5x and strong liquidity position, measured by a cash-to-short-term debt ratio around 1.5x.

Negative: Future developments that may, individually or collectively, lead to a negative rating action:

--Market share erosion in Brazilian market;

--EBITDA margins falling and remaining below 15%;

--Net adjusted leverage remaining above 3.5x;

--Deterioration of sound liquidity of short-term debt, leading to refinancing risk exposure;

--Large M&A acquisition that moves the company's leverage beyond 3.5x, on a sustainable basis.

LIQUIDITY AND DEBT STRUCTURE

Dasa has a track record of adequate liquidity. On March 31, 2015, DASA reported BRL794 million of cash against BRL515 million of short-term debt, resulting in a cash-to-short-term debt ratio of 1,5x. Cash+CFFO to short-term debt ratio was 2.0x for the period. The company seeks to maintain a well-managed debt schedule program in order to avoid any refinancing risks. As of March 31, 2015, its cash position including CFFO was sufficient to cover debt amortization until mid-2017. DASA showed a strong access to local capital markets; around 86% of its total debt relates to local debentures issuance.

Additional information is available at '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

National Scale Ratings Criteria (pub. 30 Oct 2013)

https://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=720082

Additional Disclosures

Dodd-Frank Rating Information Disclosure Form

https://www.fitchratings.com/creditdesk/press_releases/content/ridf_frame.cfm?pr_id=989011

Solicitation Status

https://www.fitchratings.com/gws/en/disclosure/solicitation?pr_id=989011

Endorsement Policy

https://www.fitchratings.com/jsp/creditdesk/PolicyRegulation.faces?context=2&detail=31

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Contacts

Fitch Ratings
Primary Analyst
Debora Jalles
Director
+1 312-606-2338
Fitch Ratings Inc.
70 West Madison Street
Chicago, IL, 60602
or
Secondary Analyst
Renato Donatti
Associate Director
+55-11-4504-2215
or
Committee Chairperson
Ricardo Carvalho
Senior Director
+55-21-4503-2627
or
Media Relations:
Alyssa Castelli, +1 212-908-0540
alyssa.castelli@fitchratings.com

Contacts

Fitch Ratings
Primary Analyst
Debora Jalles
Director
+1 312-606-2338
Fitch Ratings Inc.
70 West Madison Street
Chicago, IL, 60602
or
Secondary Analyst
Renato Donatti
Associate Director
+55-11-4504-2215
or
Committee Chairperson
Ricardo Carvalho
Senior Director
+55-21-4503-2627
or
Media Relations:
Alyssa Castelli, +1 212-908-0540
alyssa.castelli@fitchratings.com