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ADS Tactical, Inc. -- Moody's affirms ADS Tactical's B2 CFR; assigns B3 rating to new term loan

·17 min read

Rating Action: Moody's affirms ADS Tactical's B2 CFR; assigns B3 rating to new term loanGlobal Credit Research - 09 Feb 2021Approximately $700 million of rated debt affectedNew York, February 09, 2021 -- Moody's Investors Service, ("Moody's") affirmed ADS Tactical, Inc.'s ("ADS")'s ratings, including its corporate family rating ("CFR") and probability of default ratings at B2 and B2-PD, respectively. Concurrently, Moody's assigned a B3 rating to the company's proposed $700 million senior secured term loan due 2028. Moody's expects the B3 rating on the company's existing term loan due 2023 to be withdrawn at closing of the proposed transaction. The ratings outlook is stable.Moody's expects proceeds from the proposed transaction to be used to repay approximately $290 million of the company's existing senior secured term loan (rated B3) and notes (unrated), as well as fund a dividend to the company's owners and repay the majority of the company's revolver outstandings. The proposed term loan's B3 rating, one notch below the CFR, reflects the facility's lien subordination to the company's $200 million asset-based revolver that has a first-priority claim on the company's assets.All ratings are subject to Moody's review of final documentation.Assignments:Issuer: ADS Tactical, Inc.Senior Secured Term Loan at B3 (LGD4)Affirmations:Issuer: ADS Tactical, Inc.Corporate Family Rating at B2Probability of Default Rating at B2-PDSenior Secured Term Loan at B3 (LGD4) Outlook Actions: Issuer: ADS Tactical, Inc. Outlook, Stable RATINGS RATIONALE The ratings affirmations reflects Moody's view that ADS Tactical's good corporate governance underscored by a conservative leverage profile provides the capacity for the company to be able to fund the proposed dividend and maintain a credit profile reflective of the B2 CFR. This view also reflects Moody's expectation that the company will improve debt/EBITDA to below 4.0x before considering future sizable dividends.ADS's B2 CFR reflects its moderately high financial leverage profile (approximately 4.0x pro forma for proposed dividend recapitalization) and high degree of working capital variability that limits free cash flow. Moody's expects that within the next two years the company will make progress towards improving its currently elevated financial leverage. In addition, contract concentration and reliance on Department of Defense spending are credit constraints.Corporate governance is a key ratings consideration with the company's good corporate governance that has translated to strong metrics for the B2 CFR able to accommodate the temporarily higher financial leverage resulting from the proposed dividend recapitalization. Moody's expects that the company will remain focused on improving its financial leverage over the next twelve months. Moody's also expects that excess cash beyond tax-related dividends and a certain level of discretionary dividends will be used towards repayment of debt.Moody's expects ADS's improved financial leverage profile to accommodate the high degree of working capital variability inherent in the business to support top line growth. The company should experience continued earnings growth due to a healthy backlog as well as benefits from sales force initiatives. Furthermore, the company's well-entrenched relationships with Department of Defense agencies, recurring nature of its work and expansion of product offerings help to partially mitigate credit risks.The stable outlook is based on Moody's expectation that the company's improved free cash flow profile (after dividends) will be sustained. Further, Moody's expects the company to maintain an adequate liquidity profile.ESG considerations include corporate governance reflecting a historically conservative financial policy with strong credit metrics able to withstand the higher leverage pro forma for the proposed refinancing. Social considerations include worker safety, as Moody's believes that the company continues to take measures to ensure safety of its employee base including remote work from home given the ability of many of the company's functions able to be done outside.The company's adequate liquidity profile is characterized by sufficient revolver availability to fund working capital fluctuations, the expectation of modestly positive free cash flow over the next year, mid-single digit cash balances and compliance with the company's springing ABL covenant.FACTORS THAT COULD LEAD TO AN UPGRADE OR DOWNGRADE OF THE RATINGSMoody's would consider an upgrade if the company maintains a healthy backlog and lower contract concentration while generating operating margins exceeding 10% and consistent annual positive free cash flow. Given the inherent working capital variability in the company's business, Moody's would also predicate a prospective ratings upgrade on a more conservative leverage profile including debt-to-EBITDA at or below 3.5x and free cash flow to debt in the high single digit range.Moody's would consider a ratings downgrade if the company's liquidity profile deteriorates such that free cash flow is negative on an annual basis accompanied by a weakening operating margin profile with debt-to-EBITDA exceeding 5.0x and heavy reliance on its ABL facility, on a sustained basis. A shift in the company's financial policy towards recurring sizable debt-financed dividends while the company generates negative free cash flow would also exert downward ratings pressure. A change in the company's ability to bid on government procurement contracts as a small business distributor or loss of its position on its largest contract vehicle could also lead to a ratings downgrade.Following are some of the preliminary credit agreement terms, which remain subject to market acceptance.The proposed term loan credit agreement does not contain financial maintenance covenants. The agreement contains covenant flexibility for transactions that could adversely affect creditors, including incremental facility capacity of the greater of $180 million and 100% of EBITDA, plus additional amounts subject to either 4.00x first lien net leverage (for pari passu secured debt), 4.75x secured net leverage (for junior secured debt), or 5.25x total net leverage (for unsecured debt). Only wholly owned subsidiaries must provide guarantees, but non-wholly owned subsidiaries will not be released from guarantees solely because such guarantor becomes a non-wholly owned subsidiary of the borrower other than in connection with any disposition of such subsidiary to a bona fide third party purchaser. Asset transfers to unrestricted subsidiaries are permitted subject to carve-out capacities; there are no additional "blocker" protections. 100% of proceeds from asset sales are expected to be used towards debt prepayment, subject to reinvestment rights and step downs to 50% and 0% subject to achieving 3.50x and 3.0x first lien net leverage ratios, respectively.Headquartered in Virginia Beach, VA, ADS Tactical, Inc., through its operating subsidiary Atlantic Diving Supply, Inc. is a provider of logistics and supply chain solutions for the U.S. Department of Defense and other federal agencies. Revenue during the last twelve months ended September 30, 2020 totaled approximately $3.1 billion. ADS was founded in 1997 by its chairman, Luke Hillier, who is also the majority owner of the company.The principal methodology used in these ratings was Aerospace and Defense Methodology published in July 2020 and available at https://www.moodys.com/researchdocumentcontentpage.aspx?docid=PBC_1224306. Alternatively, please see the Rating Methodologies page on www.moodys.com for a copy of this methodology.REGULATORY DISCLOSURESFor further specification of Moody's key rating assumptions and sensitivity analysis, see the sections Methodology Assumptions and Sensitivity to Assumptions in the disclosure form. Moody's Rating Symbols and Definitions can be found at: https://www.moodys.com/researchdocumentcontentpage.aspx?docid=PBC_79004.For ratings issued on a program, series, category/class of debt or security this announcement provides certain regulatory disclosures in relation to each rating of a subsequently issued bond or note of the same series, category/class of debt, security or pursuant to a program for which the ratings are derived exclusively from existing ratings in accordance with Moody's rating practices. For ratings issued on a support provider, this announcement provides certain regulatory disclosures in relation to the credit rating action on the support provider and in relation to each particular credit rating action for securities that derive their credit ratings from the support provider's credit rating. For provisional ratings, this announcement provides certain regulatory disclosures in relation to the provisional rating assigned, and in relation to a definitive rating that may be assigned subsequent to the final issuance of the debt, in each case where the transaction structure and terms have not changed prior to the assignment of the definitive rating in a manner that would have affected the rating. For further information please see the ratings tab on the issuer/entity page for the respective issuer on www.moodys.com.For any affected securities or rated entities receiving direct credit support from the primary entity(ies) of this credit rating action, and whose ratings may change as a result of this credit rating action, the associated regulatory disclosures will be those of the guarantor entity. Exceptions to this approach exist for the following disclosures, if applicable to jurisdiction: Ancillary Services, Disclosure to rated entity, Disclosure from rated entity.The ratings have been disclosed to the rated entity or its designated agent(s) and issued with no amendment resulting from that disclosure.These ratings are solicited. Please refer to Moody's Policy for Designating and Assigning Unsolicited Credit Ratings available on its website www.moodys.com.Regulatory disclosures contained in this press release apply to the credit rating and, if applicable, the related rating outlook or rating review.Moody's general principles for assessing environmental, social and governance (ESG) risks in our credit analysis can be found at https://www.moodys.com/researchdocumentcontentpage.aspx?docid=PBC_1243406.At least one ESG consideration was material to the credit rating action(s) announced and described above.The Global Scale Credit Rating on this Credit Rating Announcement was issued by one of Moody's affiliates outside the EU and is endorsed by Moody's Deutschland GmbH, An der Welle 5, Frankfurt am Main 60322, Germany, in accordance with Art.4 paragraph 3 of the Regulation (EC) No 1060/2009 on Credit Rating Agencies. Further information on the EU endorsement status and on the Moody's office that issued the credit rating is available on www.moodys.com.The Global Scale Credit Rating on this Credit Rating Announcement was issued by one of Moody's affiliates outside the UK and is endorsed by Moody's Investors Service Limited, One Canada Square, Canary Wharf, London E14 5FA under the law applicable to credit rating agencies in the UK. Further information on the UK endorsement status and on the Moody's office that issued the credit rating is available on www.moodys.com.Please see www.moodys.com for any updates on changes to the lead rating analyst and to the Moody's legal entity that has issued the rating.Please see the ratings tab on the issuer/entity page on www.moodys.com for additional regulatory disclosures for each credit rating. Jadijhe (Gigi) Adamo Vice President - Senior Analyst Corporate Finance Group Moody's Investors Service, Inc. 250 Greenwich Street New York, NY 10007 U.S.A. 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