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FLIR Systems, Inc. -- Moody's changes rating outlook of FLIR Systems to stable from negative, affirms Baa3 senior unsecured

Rating Action: Moody's changes rating outlook of FLIR Systems to stable from negative, affirms Baa3 senior unsecured

Global Credit Research - 17 Jul 2020

Approximately $425 million of debt rated

New York, July 17, 2020 -- Moody's Investors Service changed the ratings outlook of FLIR Systems, Inc. ("FLIR" or the "company") to stable from negative and affirmed the Baa3 senior unsecured notes rating.

According the Moody's analyst Bruce Herskovics, "The ratings outlook change to stable from negative reflects our expectation that leverage and liquidity will ultimately remain within a supportive range, nothwithstanding financial policies that became somewhat more aggressive and opportunistic over the past two years."

Regarding the Baa3 senior unsecured rating, Herskovics added that "FLIR's technology franchise gives the company a leading position within the thermal imaging camera/payload niche, a market specialization that offers high margin and return potential which suits the rating level despite a relatively modest revenue scale that is less characteristic."

Although the ratings outlook was revised to stable, a series of recent developments including the rapid spread of the coronavirus outbreak, a deteriorating global economic outlook, low oil prices and high asset price volatility have created an unprecedented credit shock across a range of sectors and regions. Moody's regards the coronavirus outbreak as a social risk under its ESG framework, given the substantial implications for public health and safety. Notwithstanding the favorable outlook revision, today's actions reflect the impact on FLIR of a modest deterioration in credit quality that has been triggered given its exposure to defense contracting, which while less affected than most other sectors has not been immune to the adverse impact of the pandemic and leaves the company vulnerable to shifts in market demand and sentiment in these unprecedented operating conditions.

RATINGS RATIONALE

The Baa3 senior unsecured rating recognizes FLIR's long-held status as a leading developer of thermal imaging based technologies, with solid positions across defense and industrial markets and strong key credit metrics, steady free cash flow generation and a correspondingly solid liquidity profile. To maintain the technology edge, FLIR undertakes high R&D spending equivalent to about 9% of sales, and nonetheless achieves 20+% EBITDA margins (after Moody's standard adjustments), a reflection of the leading niche position and high performance of its products within often demanding applications.

Further, the rating favorably considers recent investments within the unmanned defense systems business that qualify FLIR as a small platform prime. In time, these investments could ultimately expand the portion of FLIR's revenue base that is backlog driven. Many of the unmanned systems on which FLIR competes represent emerging and competitive categories for which funding rates will be robust. Programs may evolve in unpredictable ways, however, as technology and defense requirements change. Beyond the revenue scale and diversification upside, the unmanned defense systems business builds the company's reputation as an innovator and benefits the talent recruitment potential.

The adverse impact of the coronavirus pandemic will likely result in a significant revenue mix shift for FLIR in 2020, as commercial application demand will decline with weakening economic activity yet demand for defense related products should be solid, and demand for health and skin temperature related applications will dramatically rise, resulting in low-to-flat annual growth on a net basis. Moody's expects that margins will probably diminish by about 200-300bps, to the 20% range, reflecting some inefficiencies following the sudden revenue mix change and restructuring activity. Free cash flow should be in the $150 million range, down from recent years but still impressively more than 20% of debt.

In Moody's view, FLIR will consistently maintain leverage between 2x-2.5x, with cash at or above $250 million. With the foregoing in mind, the rating does not envision acquisition activity near-term, as FLIR will show discipline and instead focus on cost control to maximize free cash flow generation and repayment of revolver borrowings. FLIR borrowed $170 million under its revolver in Q1-2020 to repurchase stock, before the real onset of the coronavirus outbreak. But with the anticipated allocation of free cash flow, FLIR should end 2020 with less than $50 million outstanding on its revolving credit line.

The stable ratings outlook anticipates that in coming months FLIR will refinance its $425 million of notes that mature in June 2021, likely with similarly structured debt, thereby retaining the fully unsecured debt structure. Moody's considers the company's ongoing Sweden-related tax dispute, on which FLIR posted a $224 million letter of credit, as a contingent liability that could eventually result in a commensurate charge and funding requirement at sometime over the next three years. But given the company's financial policies, FLIR's balance sheet and existing borrowing lines should absorb such a development without threat to the rating.

FACTORS THAT COULD LEAD TO AN UPGRADE OR DOWNGRADE OF THE RATINGS

Upward ratings movement is unlikely in the near term, but the ratings could be upgraded with expectations of a return to low financial leverage and, given the narrow technology range, less exposure to the threat of competitive growth within the company's core business.

The ratings could be downgraded if financial policies become more aggressive than expected. The ratings could also be pressured if cash declines significantly below $300 million, or if headroom under FLIR's financial maintenance covenant test declines below 20%.

The following rating actions were taken:

Affirmations:

..Issuer: FLIR Systems, Inc.

....Senior Unsecured Regular Bond/Debenture, Affirmed Baa3

Outlook Actions:

..Issuer: FLIR Systems, Inc.

....Outlook, Changed To Stable From Negative

Headquartered in Wilsonville, Oregon, FLIR Systems, Inc. designs and manufactures a range of sensors, detection systems and other products centered around infrared imaging technology and thermography. Applications include airborne and ground-based surveillance, condition monitoring, research and development, manufacturing process control, navigation, border patrol, environmental monitoring, and chemical/biological/ radiological/nuclear/explosives detection. Revenues in the last twelve months ended March 31, 2020 were $1.8 billion.

The principal methodology used in these ratings was Manufacturing Methodology published in March 2020 and available at https://www.moodys.com/researchdocumentcontentpage.aspx?docid=PBC_1206079. Alternatively, please see the Rating Methodologies page on www.moodys.com for a copy of this methodology.

REGULATORY DISCLOSURES

For 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_1133569.

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.

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.

Bruce Herskovics Vice President - Senior Analyst Corporate Finance Group Moody's Investors Service, Inc. 250 Greenwich Street New York, NY 10007 U.S.A. JOURNALISTS: 1 212 553 0376 Client Service: 1 212 553 1653 Russell Solomon Associate Managing Director Corporate Finance Group JOURNALISTS: 1 212 553 0376 Client Service: 1 212 553 1653 Releasing Office: Moody's Investors Service, Inc. 250 Greenwich Street New York, NY 10007 U.S.A. JOURNALISTS: 1 212 553 0376 Client Service: 1 212 553 1653

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