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TreeHouse Foods, Inc. -- Moody's affirms TreeHouse Foods' B1 CFR; changes outlook to stable

·21 min read

Rating Action: Moody's affirms TreeHouse Foods' B1 CFR; changes outlook to stableGlobal Credit Research - 16 Aug 2022New York, August 16, 2022 -- Moody's Investors Service ("Moody's") affirmed the ratings of TreeHouse Foods, Inc. ("TreeHouse"), including the B1 Corporate Family Rating (CFR), the B1-PD Probability of Default Rating ("PDR"), the B3 rating on company's senior unsecured notes, and the Ba3 rating on the company's senior secured bank facilities. The Speculative Grade Liquidity Rating was upgraded from SGL-3 to SGL-2. Moody's also changed the outlook to stable from developing.The affirmation follows the company's announcement that on August 10, 2022, the company reached a definitive agreement to sell a significant portion of its Meal Preparation business to Investindustrial for $950 million. The transaction is expected to close in the fourth quarter of 2022. This transaction follows the November 8, 2021 announcement that the Board of Directors had approved a plan to explore strategic alternatives including a possible sale of the company or a transaction to allow the company to focus on its higher growth Snacking & Beverages business segment by divesting a significant portion of its Meal Preparation business segment. Based on management estimates, the divested business makes up roughly 30% of consolidated sales and 18% of consolidated adjusted EBITDA, reflecting the lower margin of the divested business. The categories to be divested include the following: pasta, pourable and spoonable dressing, preserves, red sauces, syrup, dry blends and baking, dry dinners, pie filling, pita chips and other sauces. The categories that will remain in the portfolio include the following: crackers, pretzels, cookies, bars, hot cereal, in-store bakery, griddle, pickles, broth, refrigerated dough, candy, cheese & pudding, non-dairy creamers, single serve beverages, powdered beverages, liquid beverages, tea, and other blends.While the divestiture reduces the company's scale and product diversification, the pro forma sales of the remaining business will still be significant at roughly $3.5 billion. Moody's also expects the transaction to reduce the complexity of the business, with an expected reduction of 11 categories, 14 plants, 5,000 SKUs and 1 ERP system. In addition, the remaining portfolio will now be more skewed towards higher growth and higher margin snacking and beverage categories that offer greater long term growth opportunities. Importantly, the transaction also supports near term debt reduction. The $950 million purchase price will be funded with $530 million cash and a $420 million seller note due in 2027. Moody's expects that a majority of the $530 million cash proceeds will be used to reduce debt, resulting in a decline in debt/EBITDA leverage of nearly half a turn. While the seller note structure delays the receipt of the remaining purchase price balance, Treehouse will benefit from the collection of 10% annual interest in the first two years, with interest rate escalations thereafter. The interest rate on the seller note is meaningfully higher than Treehouse's cost of debt, and should provide cash flow of roughly $42 million per year for the first two years. The seller note is also secured by a first priority lien on substantially all of the divested business' assets, other than assets pledged to the ABL facility, and the seller note can be assigned with certain limitations.The stable outlook reflects Moody's expectation for debt/EBITDA leverage (on a Moody's adjusted basis) to decline from 8.0x (for the LTM period ended June 30, 2022) to around 5x by the end of 2023. The deleveraging is based on Moody's forecast of a strong fourth quarter, a 15-20% organic EBITDA rebound in 2023, and debt reduction with cash proceeds from the divestiture. The projected improvement in operating performance follows a challenging operating period since early 2021 as consumers traded up from private label to branded products during the pandemic. Treehouse has also faced margin compression due to inflationary pressure and supply chain challenges. However, private label demand trends have been improving since March 2022 as consumers increasingly search for value in a challenging macro environment. Treehouse generated 19.8% organic sales growth in the second quarter of 2022, with a volume/mix contribution of 2.1%, despite 17.7% of pricing, representing Treehouse's first quarter of volume growth since 2020. Additionally, the company's pricing is projected to catch up to costs by the fourth quarter of 2022. Still, the company only expects 50-100 basis points of EBITDA margin improvement sequentially in the third quarter, resulting in a heavily weighted fourth quarter EBITDA based on the company's recently affirmed full year EBITDA guidance. Moody's projects that margins will continue to improve sequentially as commodity inflation has eased. However, the macro environment remains volatile and increased inflationary pressure or further supply chain challenges could pressure margins. Higher than expected stranded costs, dis-synergies, or restructuring costs related to the divestiture could also negatively impact operating performance.The upgrade to SGL-2 from SGL-3 reflects improving projected headroom within the financial maintenance covenants over the next year due to the anticipated improvement in earnings and the February 2022 covenant amendment. Treehouse temporarily increased the net leverage covenant threshold from 4.50x to 5.50x through June 30, 2022, then 5.25x through September 30, 2022, and thereafter reverts to 4.50x. Treehouse's good liquidity reflects its healthy cash balance of $199 million as of June 30, 2022, access to $730 million under its undrawn $750 million revolving credit facility (net of $20 million in letters of credit as of June 30, 2022; and which will be reduced to $500 million following the closing of the divestiture transaction), and Moody's expectation for the company to generate approximately $150 million to $200 million of positive free cash flow over the next 12 months. There are no near term debt maturities, as the earliest maturity is the revolver and $930 million term loan due in 2026.Affirmations:..Issuer: TreeHouse Foods, Inc..... Corporate Family Rating, Affirmed B1.... Probability of Default Rating, Affirmed B1-PD....Senior Secured 1st Lien Bank Credit Facility, Affirmed Ba3 (LGD3)....Senior Unsecured Regular Bond/Debenture, Affirmed B3 (LGD5)Upgrades:..Issuer: TreeHouse Foods, Inc..... Speculative Grade Liquidity Rating, Upgraded to SGL-2 from SGL-3Outlook Actions:..Issuer: TreeHouse Foods, Inc.....Outlook, Changed To Stable From DevelopingRATINGS RATIONALETreeHouse Foods, Inc.'s B1 CFR reflects its significant scale as a leading private label food manufacturer and good product diversification. The recently announced divestiture of a significant portion of its Meal Preparation business will reduce the company's scale and product diversification, but the pro forma sales of the business will still be significant at $3.5 billion, with the remaining portfolio skewed towards higher growth and higher margin snacking and beverage categories. TreeHouse has also traditionally had a balanced financial policy. These credit strengths are balanced against relatively high financial leverage, and operating pressure from high input costs and supply chain disruptions. The company generates good free cash flow and the food industry has low cyclicality. Low or declining growth in some product lines can contribute to event risk such as acquisitions and meaningful portfolio reshaping.FACTORS THAT COULD LEAD TO AN UPGRADE OR DOWNGRADE OF THE RATINGSGiven the reduction in scale and diversity of the business related to the divestiture of a significant portion of the Meal Preparation business, Moody's tightened the upgrade and downgrade factors.A rating downgrade could occur if TreeHouse is unable to improve operating performance including improving margins from current levels, or if stranded costs and dis-synergies related to the divestiture are significantly larger than expected, or the financial policy becomes more aggressive. Quantitatively, a downgrade could occur if debt/EBITDA is not likely to be sustained below 6.0x, or liquidity deteriorates.A rating upgrade could occur if TreeHouse is able to improve operating performance including positive organic revenue growth with higher margins, and consistent and solid free cash flow generation. TreeHouse would also need to sustain debt/EBITDA below 5.0x through strong operating performance or significant debt repayment. Quality of earnings would also need to reflect a reduction in the amount of restructuring and other non-recurring costs that are added back to EBITDA.ESG CONSIDERATIONSTreehouse's ESG Credit Impact Score is highly negative (CIS-4). The CIS score reflects the weight placed on its aggressive financial strategy as the company operates with high leverage and pursues debt financed M&A. Treehouse is also moderately negatively exposed to environmental and social risks.Treehouse's exposure to environmental risks is moderately negative (E-3). This reflects Treehouse's moderately negative exposure to natural capital risks as the company relies on many agricultural inputs (including coffee, cocoa, soybean oil, palm oil, wheat and others) that require use of land and fertilizers that could harm the environment, and which could additionally be affected by climate change. The overall environmental score also reflects Treehouse's moderately negative exposure to waste and pollution risks as the company creates waste in food manufacturing, packaging, and disposal. Regulations and consumer preferences are likely to evolve to reduce packaging or improve recyclability or biodegradability of packaging, which could increase the cost of compliance in the future. To manage its environmental impact, Treehouse is in the process of increasing its landfill diversion rates across its facilities and reducing its plastic footprint. The company also has various initiatives to increase energy efficiency and reduce water intensity.Treehouse's exposure to social risks is moderately negative (S-3). Moderately negative exposure to customer relations and responsible production risks reflects the need to invest in product development and marketing to maintain relevance with consumers and minimize exposure to potential litigation related to product labeling, marketing, recalls, and contamination. As a private label manufacturer, brand perception is less of a risk, but product quality is a key attribute that retailers look for when choosing a supplier, so reputational risk important. Moderately negative health & safety risks reflect Treehouse's exposure as a food manufacturer to protect employees from workplace injuries and from health concerns that could arise from contact with raw materials and chemicals. Treehouse's exposure to demographic and societal trends related risks is neutral-to-low as packaged food companies are exposed to consumer shifts in purchasing behavior, including their increased focus on nutritional and health attributes. Treehouse needs to continuously build capacity to address customer needs, while adding more complexity to its supply chain. The company does benefit however from the longer term shift of retailers adding more private label products to its assortment as consumers have become more comfortable purchasing private label products.Treehouse's exposure to governance risks is highly negative (G-4). This score reflects Treehouse's high tolerance for risk, as the company maintains high leverage and pursues debt financed M&A. While the company's net debt-to-EBITDA leverage target of 3.0x-3.5x (based on the company's definition) creates some discipline around its capital allocation strategy, it generally operates above that range. Treehouse does not pay a dividend and the preferred mode of distributing cash to shareholders is stock buybacks. Share repurchases weaken the credit profile but are more discretionary than dividends, which allows the company flexibility to redirect free cash flow to debt reduction. The company repurchased $25 million of its shares in 2020 and an additional $25 million in the second quarter of 2021, which Moody's viewed as aggressive following the Riviana acquisition in 2020. The governance score also reflects Jana Partners' ownership stake of more than 5% in the company, as activist involvement could shift policy decisions to favor shareholders.CORPORATE PROFILETreeHouse Foods, Inc. is a leading private label food manufacturer servicing primarily the retail grocery and foodservice distribution channels. TreeHouse sells products within a wide array of food categories. Reported sales for the trailing twelve months as of June 30, 2022 were approximately $4.6 billion. TreeHouse is a publicly traded company that is listed on the New York Stock Exchange.The principal methodology used in these ratings was Consumer Packaged Goods published in June 2022 and available at https://ratings.moodys.com/api/rmc-documents/389866. Alternatively, please see the Rating Methodologies page on https://ratings.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 on https://ratings.moodys.com/rating-definitions.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 issuer/deal page for the respective issuer on https://ratings.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 https://ratings.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://ratings.moodys.com/documents/PBC_1288235.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 https://ratings.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 https://ratings.moodys.comPlease see https://ratings.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 issuer/deal page on https://ratings.moodys.com for additional regulatory disclosures for each credit rating. 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