NEW YORK--(BUSINESS WIRE)--In Fitch's view ACCO Brands Corporation's (ACCO) announcement that it will acquire Esselte Group Holdings AB (Esselte), a $458 million manufacturer of office products, predominantly operating in Europe, is neutral to the company's Long-Term Issuer Default Rating (IDR) of 'BB'. At $60 million in EBITDA, the $333 million purchase price implies a 5.5x enterprise value (EV)/EBITDA multiple. The company plans to fund the acquisition with a new Euro-denominated term loan and Fitch expects the acquisition, together with the company's $78 million term loan paydown in third quarter 2016 (3Q16), would have minimal impact on the company's current leverage of around 3x.
In addition, Fitch expects to rate ACCO's new EUR300 million Term Loan A and AUD80 million Term Loan A 'BB+/RR1'/Outlook Stable.
The proposed Esselte acquisition would improve ACCO's geographical diversification (ACCO is primarily exposed to the U.S.) and provide synergy opportunities in duplicative costs (up to $23 million per management guidance), as well as some potential revenue synergies through cross-marketing the expanded product portfolio to the combined entity's sales teams. However, while the acquisition diversifies ACCO's geographic profile, the exposure to the challenged office products industry will not change significantly.
KEY RATING DRIVERS
Fitch's ratings on ACCO are predicated on the company's stable free cash flow and ongoing debt paydown, but constrained by concerns regarding secular challenges and channel shifts within the company's merchandise mix, as well as the risk of further debt-financed acquisitions. The time management (calendars) and storage categories represent approximately 30% of ACCO's sales, and both categories have seen declines given ongoing shifts online. In addition, the office supply superstores, which currently represent 24% of ACCO's sales, have been losing share to other players including general merchants and online-only competitors.
Limited Organic Growth Yields Tight Margin Management
The office products industry is experiencing a slow secular decline due to the shift towards digital technologies. The growth of private label penetration in the industry has further pressured sales of branded products (including many of those in ACCO's portfolio). Finally, channel shift away from the traditional office products retailers and toward discounters and online-only players have forced vendors like ACCO to optimize channel management to maintain share. While ACCO benefits from its market leading position, with over 80% of sales generated from products ranked #1/#2 in their respective categories, the company has not been immune to industry challenges.
To preserve and improve margin in the difficult operating environment, ACCO has maintained a tight focus on its cost structure and improved profitability despite negative or limited organic growth. Further, the company has been and is likely to continue exiting unprofitable business lines and relationships, such as the 2015 exit from the tablet accessories market. As a result of the company's efforts, EBITDA margins steadily increased from the upper single digits in 2008 to almost 12% by 2011. Then, through the highly accretive acquisition of MeadWestvaco Corporation's Consumer & Office Products division (Mead) in May 2012, margin growth accelerated even further to more than 15% in 2015. To mitigate ongoing sector pressure, Fitch expects the company will continue to actively manage its cost structure.
Growth through Acquisitions
ACCO intends to be a leader in this consolidating industry. Fitch expects the company to focus on accretive acquisitions to reduce costs with a positive benefit to profitability and free cash flow (FCF). However, this will result in periodic increases in leverage. It partially addressed the move to faster-growing mass channels with the 2012 Mead acquisition.
In addition to Esselte, in 2Q16 ACCO announced the acquisition of the remaining 50% of Pelikan Artline Pty Limited, its joint venture (JV) company serving the Australia and New Zealand markets, as well as the buyout of a minority interest in a subsidiary of the JV. From a strategic standpoint, Fitch views the buyout as a modest positive, as it will give ACCO control over its Australian business and allow for cost synergies with existing operations.
Strong Cash Flow and Improving Leverage
ACCO has generated positive FCF every year since 2007, except for 2012, which was modestly negative after adjusting for approximately $78 million in transaction and refinancing fees related to the Mead acquisition. The company has an excellent track record in meeting its public FCF goals. ACCO generated $146.6 million FCF in 2015, and Fitch expects it to be flat at around $140 million in 2016, and around $150 million annually thereafter.
Leverage, FCF, and margins have improved, supporting good liquidity and access to the capital markets despite secular challenges. Fitch views the company's focus on maintaining solid metrics and directing much of its FCF to debt reduction as positive for the rating. ACCO has demonstrated a strong track record in deleveraging since its strategic acquisition of Mead in 2012. Bank covenant leverage ratio was reduced from over 3.5x in 2012 to below 3x in 2015, and Fitch expects the company to continue directing a meaningful portion of its FCF to debt paydown, as further illustrated by the company's $78 million of term loan reduction in 3Q16.
ASSUMPTIONS
--Revenue is expected to increase 5% to $1.58 billion in 2016 as a result of the incremental $70 million in sales from the Australian JV purchase. Revenue for the existing ACCO business is expected to be flattish on a constant currency basis annually. Assuming the Esselte acquisition closes in January 2017, Fitch expects ACCO to add Esselte's full-year sales of $457 million, resulting in $2 billion total revenue in 2017; flattish revenue growth is assumed thereafter.
--EBITDA is expected to be in the $250 million range in 2016, as positive EBITDA from the Australian JV will be somewhat mitigated by the impact of the strong U.S. dollar on ACCO's operating results. EBITDA is expected to reach around $330 million in 2017 due to the incremental contribution from the Esselte acquisition and the realization of full-year impact from Pelikan Artline integration.
--FCF is expected to be around $140 million in 2016, in line with 2015 results, and grow toward $180 million thereafter due to the Esselte acquisition. FCF in 2016 is expected to be used to reduce existing debt balances. Absent further acquisitions, which ACCO could finance with a combination of FCF and debt, Fitch assumes that beginning 2017 FCF is used to repurchase shares and reduce debt, driving leverage from the low-3x range in 2016 to below 3x.
RATING SENSITIVITIES
Future developments that may, individually or collectively, lead to a positive rating action include:
--An upgrade beyond the 'BB' range is possible if the company makes acquisitions that change its business mix or model to one with less cyclical or higher growth prospects while maintaining leverage below 3x. However, an upgrade is not anticipated in the near term given existing business model issues.
Future developments that may, individually or collectively, lead to a negative rating action include:
--Inability of the company to cut costs to offset the impact of declining sales and maintain current credit protection measures and cash flows.
--Sustained gross leverage at or above 4x, with FCF materially below expectations.
--A large debt-financed acquisition without a concrete plan to reduce debt meaningfully below 4x in the 24-month timeframe post a transaction could lead to a negative rating action.
LIQUIDITY AND DEBT STRUCTURE
ACCO had ample liquidity as of Sept. 30, 2016, composed of $101 million cash and cash equivalents and revolver availability. The company's debt includes borrowings under its $300 million revolver, term loans, and $500 million in unsecured notes. Annual term loan amortization on the company's U.S. and Australian term loans is manageable, with no significant maturities until 2020.
Fitch has assigned Recovery Ratings (RRs) to the various debt tranches in accordance with criteria, which allows for the assignment of RRs for issuers with IDRs in the 'BB' category. Given the distance to default, RRs in the 'BB' category are not computed by bespoke analysis. Instead, they serve as a label to reflect an estimate of the risk of these instruments relative to other instruments in the entity's capital structure. Fitch assigned (and would expect to assign) an 'RR1' to first lien secured debt, notching up one from the IDR, indicating outstanding recovery prospects (91%-100%) given default. The revolver, US Term Loan A and Euro Term Loan A are secured by substantially all assets of ACCO while the AUD Term Loans are secured by substantially all assets of ACCO's Australian subsidiary, ACCO Brands Australia Holding Pty. Unsecured debt will typically achieve average recovery, and thus was assigned an 'RR4', or 31% - 50% recovery.
FULL LIST OF RATING ACTIONS
Fitch expects to rate the following:
ACCO Brands Corporation
--EUR300 million five-year senior secured Euro Term Loan A 'BB+/RR1'.
ACCO Brands Australia Holding Pty.
--AUD 80 million five-year AUD Term Loan A at 'BB+/RR1'.
Fitch currently rates ACCO as follows:
ACCO Brands Corporation
--Long-term Issuer Default Rating (IDR) 'BB';
--$300 million senior secured revolving credit facility due April 2020 'BB+/RR1';
--Senior secured US Term Loan A due April 2020 'BB+/RR1';
--$500 million senior unsecured 6.75% notes due April 2020 'BB/RR4'.
ACCO Brands Australia Holding Pty.
--AUD Term Loan A 'BB+/RR1'.
The bank revolving credit facility, US Term Loan A, Euro Term Loan A and the senior unsecured notes are guaranteed by domestic (mostly Delaware and Nevada) subsidiaries.
Both of the AUD Term Loans are guaranteed by ACCO Brands Australia Holding Pty, a wholly owned subsidiary of ACCO Brands Corporation, and secured by substantially all assets of the subsidiary.
The Rating Outlook is Stable.
Date of Relevant Rating Committee: Sept. 29, 2016
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 add back non-cash stock-based compensation and exclude restructuring charges. In 2015, Fitch added back $16 million in non-cash stock-based compensation to its EBITDA calculation.
Additional information is available on www.fitchratings.com.
Applicable Criteria
Criteria for Rating Non-Financial Corporates (pub. 27 Sep 2016)
https://www.fitchratings.com/site/re/885629
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