NEW YORK--(BUSINESS WIRE)--Fitch Ratings has affirmed Covidien plc's (Covidien) ratings as follows:
--Issuer Default Rating (IDR) at 'A';
--Short-term IDR at 'F1';
--Commercial Paper Program at 'F1';
--Credit Facility at 'A';
--Senior Unsecured Notes at 'A'.
The Rating Outlook is Stable. The ratings apply to approximately $3 billion in debt outstanding as of March 26, 2010.
The rating action follows Covidien's June 1 announcement that it has agreed to acquire ev3 Inc. for $2.6 billion, equal to $22.50 in cash per ev3 share. Covidien expects to launch a tender offer in the next week and the transaction is expected to close by July 31, 2010. The boards of directors of both companies have approved the transaction, and the directors and executive officers of ev3 have confirmed their intention to tender all shares. The transaction still must receive regulatory approvals in both the U.S. and in Europe.
Covidien will fund the acquisition through a combination of cash and debt, and Fitch expects increased debt-to-EBITDA pro forma for the transaction. At March 26, 2010 Covidien's debt-to EBITDA equaled 1.1 times (x). However, Fitch previously indicated that periodic increases in Covidien's leverage above 1.5x debt-to-EBITDA to fund strategic investments were likely, and not necessarily inconsistent with the company's 'A' IDR. Maintenance of the Stable Outlook indicates an expectation that the company will use cash to reduce debt leverage to a level below its publicly stated target of 1.5x debt-to-EBITDA within the next 12-to-18 months.
Fitch believes that near-term debt reduction is achievable on the basis of the company's robust internal liquidity profile. As of the latest 12 months (LTM) ended March 26, 2010, the company produced $1.3 billion of free cash flow (defined as cash from operations less capital expenditures and dividends) and held $1.7 billion in cash on its balance sheet. Fitch expects Covidien to continue to generate between $1 billion and $1.5 billion in free cash flow (FCF) annually. Although Fitch expects the company to continue to deploy cash for smaller, entirely cash funded acquisitions and to return cash to shareholders through share repurchases, tolerance for debt-to-EBITDA levels temporarily trending above typical 'A' category credit metrics requires that management will prioritize use of cash for debt reduction following leveraging transactions.
From an operating strategy standpoint, ev3 is anticipated to enhance Covidien's medical devices segment, which contributed 60% of Covidien's revenues in the LTM ended March 26, 2010. Covidien publicly stated that the company would be focusing on expansion of its faster growing, more profitable business lines while seeking to divest assets in its less profitable businesses; the ev3 acquisition appears compatible with this strategy. It is complementary to recent, smaller acquisitions through which Covidien is seeking to build its platform in the vascular market, and there is little product overlap between Covidien and ev3. Fitch's expectation for debt repayment in fiscal (FY) 2011 supported by continued strong FCF generation does not depend upon the company realizing operational synergies from the acquisition.
In addition to its strong financial profile, Covidien's ratings are supported by its demonstrated operational stability. Fitch believes that Covidien is seeing results from its incremental investments in sales, marketing, and innovation since its separation from Tyco International and expects this trend to continue over the next few years. In FY2009, Covidien reported 5% sales growth excluding the impact of foreign exchange and the one-time benefit from oxycodone hydrochloride extended release tablet sales pursuant to a legal settlement. However, Fitch previously noted that the company faced some operational challenges in FY2010 and in the quarter ended March 26, 2010 the company reported 1% sales growth versus the prior year period, excluding the impact of foreign exchange and the one-time benefit from oxycodone hydrochloride extended release tablet sales. Relatively weak sales in the quarter were the result of increased generic competition and tough comparables, particularly in the Pharmaceuticals segment, as well as a sharp decline in seasonal flu activity. Over the longer term, Fitch believes that Covidien's operations will continue to benefit from a diverse base of products and markets as well as its strategic focus on key, growing market areas.
Covidien remains jointly-and-severally liable for several legacy tax and legal items dating to before the separation of Tyco International into Covidien, Tyco International Ltd. and Tyco Electronics Ltd. Although the bulk of these items have been resolved with the $2.975 billion shareholder settlement in FY2007 (of which Covidien's portion was $1.249 billion) there remains some uncertainty related to remaining items, particularly tax obligations, that could result in material cash outflows over the next several years.
Fitch notes that the obligor of Covidien's debt is Luxembourg-based Covidien International Finance S.A., (CIFSA) an indirect, wholly-owned subsidiary of Covidien plc. CIFSA directly or indirectly owns all of the operating subsidiaries of Covidien, issues debt, and performs treasury operations for Covidien, otherwise it conducts no independent business operations of its own. In addition, all outstanding debt is fully and unconditionally guaranteed by Covidien plc and Covidien Ltd. In June 2009, Covidien moved its headquarters from Bermuda to Ireland while Covidien plc replaced Covidien Ltd. as the ultimate parent of the corporation.
Debt at March 26, 2010 included $2.75 billion in unsecured notes with maturities ranging from 2010 to 2037 with $250 million due in October 2010; there are no significant debt maturities in 2011. Covidien also has a $1.425 billion commercial paper program ($150 million outstanding at March 26, 2010) that is backed by the company's $1.425 billion unsecured revolving credit facility maturing in April 2012. Liquidity is provided by this facility, cash on hand ($1.7 billion at March 26, 2010) and FCF ($1.3 billion for the LTM ended March 26, 2010). Fitch expects liquidity to be robust over the next few years as free cash flow remains between $1 billion-$1.5 billion annually.
These rating actions reflect the application of Fitch's current criteria which is available on Fitch's website at 'www.fitchratings.com' and specifically includes the following:
--'Corporate Rating Methodology' Nov. 24, 2009;
--'Liquidity Considerations for Corporate Issuers' June 12, 2007.
Additional information is available at 'www.fitchratings.com'.
Megan Neuburger, 212-908-0501, New York
Robert Kirby, 312-368-3147, Chicago
Michael Zbinovec, 312-368-3164, Chicago
Cindy Stoller, 212-908-0526, New York