Fitch Rates RPI Finance Trust's Secured Bank Facility 'BBB-'

CHICAGO--()--Fitch Ratings has assigned a 'BBB-' rating to RPI Finance Trust's (RPI FT) new term loans. The Rating Outlook is Stable.

A full list of ratings follows at the end of this press release.

KEY RATING DRIVERS

--RPI FT continues to generate strong EBITDA, with margins exceeding 90% due to minimal operating costs.

--Fitch expects leverage to range between 3.0x-4.0x as acquisitions drive up debt, followed by increased EBITDA (partly acquisition related) and debt reduction.

--RPI FT will experience pressure on revenues as contract/patents lapse for pharmaceuticals that underlie nearly 35% - 45% of the company's royalty stream,over the next three years.

--RPI FT's investment horizon runs to end of 2018, when unitholders will vote on whether to extend it further.

HIGH OPERATING LEVERAGE

RPI FT's modest operating expenses generate solid earnings with EBITDA margins exceeding 90% annually. The company produced EBITDA of $1.87 billion and revenue of $1.98 billion during the LTM ended June 30, 2016. Fitch anticipates operating costs to remain low, leading to sustained high EBITDA margins.

ROYALTY STREAM TO FADE

Contract/patent expirations of pharmaceuticals that weigh on RPI FT's revenues will ramp up over the next few years. Revenues from drugs with patents expiring during 2016-2018 represented 35%- 40% of the company's royalty stream at the end of 2015. Fitch anticipates mid-single-digit average revenue and earnings growth through 2018 and meaningful declines thereafter if RPI FT does not acquire additional royalty assets.

ACQUISITIONS NEEDED TO SUSTAIN GROWTH

Fitch believes the company will pursue new product acquisitions to extend the useful life of its aging asset portfolio before 2018. The company has some financial flexibility to pursue transactions, given roughly $941 million of balance sheet cash, leverage of approximately 3.2x (covenant: 4.0x) at June 30, 2016, and a $300 million accordion feature on its loan facility.

MODERATELY OSCILLATING LEVERAGE

Fitch expects leverage to range between 3.0x-4.0x, with acquisitions initially driving debt up and leverage and increased EBITDA/debt pay-downs driving leverage down. Asset purchases totalled roughly $1.56 billion during the 18-month period, ended June 30, 2016, and resulting leverage was approximately 3.2x at June 30, 2016. An excess free cash flow (FCF) recapture provision in the company's secured term loan facility helps to strengthen debt reduction.

SOLID FCF

RPI FT should maintain FCF margins above 25% over the ratings horizon, despite some pressures on revenues and EBITDA and meaningful cash distributions to unit holders. Fitch assumptions include annual dividends around 30%-35% of EBITDA to unit holders. The estimate for the distributions is lower than the maximum level of 'permitted distributions' of 45% of EBITDA in the company's credit facilities.

ACQUISITIONS KEY VARIABLE FOR CREDIT

RPI FT ratings reflect Fitch's assumption that the company will maintain a disciplined approach to acquiring royalty assets in order to maintain significant dividend payouts in the face of patent/contract expiries. The company will need to balance a mix of pipeline products with those already approved and on the market. While the risk is higher in acquiring drug assets in late-stage development, the cost is most likely less than for those currently on the market.

2018 INVESTMENT/LIQUIDITY EVENT

The company's limited partnership agreement requires it to provide an option to unitholders to vote by the end of 2018 whether to allow RPI FT to continue making investments in additional royalty/revenue generating assets. All investment activity must cease, absent any extensions to the investment period by unitholders.

KEY ASSUMPTIONS

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

--Revenues increasing through 2018 and declining in 2019 due to expiring assets.

--EBITDA margin around 90%.

--Unitholder distributions (dividends) of roughly 30%-35% of EBITDA.

--Targeted acquisitions intended to maintain growth in EBITDA and dividends through 2018.

--Debt fluctuating between 3.0x-4.0x EBITDA (or below 3.0x should acquisitions and investments cease).

RATING SENSITIVITIES

An upgrade is unlikely for RPI Finance Trust given that the company's business strategy is reliant on active asset purchases that occasionally push leverage to a level no longer consistent with the current 'BBB-' rating. In addition, uncertainty surrounding the approaching liquidity event in 2018 limits ratings upside.

A downgrade would result if:

--RPI FT was intent on completely winding down the royalty-bearing assets without an expectation of meaningful debt reduction.

--A fall in the average weighted useful life of the royalty asset portfolio such that it is no longer commensurate with the debt maturity schedule or if anticipated cash flows cannot satisfy the outstanding debt level.

--The company were unable or unwilling to rapidly reduce high debt leverage following leveraging asset acquisitions.

ADEQUATE LIQUIDITY

RPI FT generates solid earnings from its royalty streams using a modest amount of expenses generating robust cash flow from operations (CFO) that comfortably covers scheduled amortizations and provides for potentially additional debt reduction. FCF is generally very strong, although occasional larger-than-normal dividends create some volatility in this metric. Nevertheless, consistently positive CFO provides RPI FT flexibility to service debt, as well as reward unitholders.

Cash balances and marketable securities were $941 million at June 30, 2016. RPI FT had roughly $5.9 billion in loans outstanding at June 30, 2016, with approximately $95 million maturing/amortizing in the second half of 2016, $192 million in 2017 and $192 million in 2018. Fitch also assumes the company will use 25%-50% of excess FCF to pay down borrowings, in addition to the aforementioned scheduled amortizations.

FULL LIST OF RATINGS

Fitch has the following ratings on RPI FT:

--Issuer Default Rating (IDR) 'BBB-';

--Senior secured bank credit facility 'BBB-'.

The Rating Outlook is Stable.

Last Relevant Committee: Oct. 23, 2015.

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 reflect cash received from royalty interests, as well as cash paid for operating expenses and royalties owed to RP Select Finance Trust.

Additional information is available on www.fitchratings.com.

Applicable Criteria

Corporate Rating Methodology - Including Short-Term Ratings and Parent and Subsidiary Linkage - Effective from 17 August 2015 to 27 September 2016 (pub. 17 Aug 2015)

https://www.fitchratings.com/site/re/869362

Additional Disclosures

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https://www.fitchratings.com/gws/en/disclosure/solicitation?pr_id=1012975

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https://www.fitchratings.com/regulatory

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Contacts

Fitch Ratings
Primary Analyst
Bob Kirby, CFA
Director
+1-312-368-3147
Fitch Ratings, Inc.
70 West Madison Street
Chicago, IL 60602
or
Secondary Analyst
Megan Neuburger, CFA
Managing Director
+1-212-908-0501
or
Committee Chairperson
Bill Densmore
Senior Director
+1-312-368-3125
or
Media Relations
Alyssa Castelli, +1 212-908-0540
alyssa.castelli@fitchratings.com

Contacts

Fitch Ratings
Primary Analyst
Bob Kirby, CFA
Director
+1-312-368-3147
Fitch Ratings, Inc.
70 West Madison Street
Chicago, IL 60602
or
Secondary Analyst
Megan Neuburger, CFA
Managing Director
+1-212-908-0501
or
Committee Chairperson
Bill Densmore
Senior Director
+1-312-368-3125
or
Media Relations
Alyssa Castelli, +1 212-908-0540
alyssa.castelli@fitchratings.com