TEXT - S&P cuts Armtec Holdings Ltd

Thu Dec 13, 2012 5:28pm EST
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     -- We are lowering our long-term corporate credit rating on Guelph, 
Ont.-based infrastructure products manufacturer Armtec Holdings Ltd. To 'B-' 
from 'B'. 
     -- We base this downgrade on our view that the company's adjusted credit 
metrics remain weaker than those typically corresponding to 'B' rated 
entities, and we do not expect this to change in the near term.
     -- Moreover, Armtec has limited ability to absorb either a slowdown in 
end market demand or operational missteps. 
     -- At the same time, we are lowering our issue-level rating on Armtec's 
senior unsecured notes to 'CCC' from 'B-' and revising our recovery rating on 
the debt to '6' from '5'.
     -- The stable outlook reflects our expectation that the company will 
continue to generate EBITDA in the range of C$40 million-C$50 million in the 
near term, which based on our current assumptions should be sufficient to fund 
necessary capital expenditures and minimal debt repayment in the next several 

Rating Action
On Dec. 13, 2012, Standard & Poor's Rating Services lowered its long-term 
corporate credit rating on Guelph, Ont.-based infrastructure products 
manufacturer Armtec Holdings Ltd. to 'B-' from 'B'. The outlook is stable.

We also lowered our issue-level rating on the company's C$150 million senior 
unsecured notes to 'CCC' from 'B-' and revised our recovery rating on this 
debt to '6' from '5'. The '6' recovery rating corresponds with negligible 
(0%-10%) recovery and an issue-level rating two notches below the corporate 
credit rating. The revised recovery rating primarily reflects the company's 
decision to accrue interest on its Brookfield credit facility, thereby causing 
lower expected recovery on the senior unsecured notes.

We base the downgrade on our expectation that Armtec's credit metrics will 
remain weak in the near term, with adjusted debt-to-EBITDA above 7x and funds 
from operations (FFO)-to-debt below 10% for at least the next few years. These 
credit metrics typically correspond to a 'B-' rating when coupled with a 
"vulnerable" business risk profile. 

The downgrade also reflects our belief that the company has limited ability to 
absorb either a slowdown in end-market demand or operational missteps. This is 
an important consideration, particularly in light of management's recent 
assessment that demand for the company's products and solutions is softening 
slightly and our belief that these risks are interrelated; in the past, 
slowing demand has caused firms (including Armtec) to bid at margins that 
leave them little room for error or to pursue work outside of their core 

We base our ratings on Armtec on its consolidation with parent Armtec 
Infrastructure Inc. (not rated). The ratings on Armtec reflect what Standard & 
Poor's view as the company's financial risk profile, which we characterize as 
"highly leveraged." The ratings also reflect our assessment of the company's 
business risk profile as vulnerable, given its exposure to the cyclical 
construction industry and volatile raw-material costs. Somewhat offsetting 
these weaknesses, in our opinion, are the company's end-market and geographic 

Armtec is a leading Canadian manufacturer and marketer of infrastructure 
products, offering a range of construction/infrastructure products and 
engineered solutions for customers in a cross-section of industries located in 
each main region of Canada, as well as in selected markets globally. 

Our view of Armtec's financial risk profile as highly leveraged reflects our 
expectation that adjusted debt-to-EBITDA will be above 8x at the end of 2012 
and adjusted FFO-to-debt will be below 10%. While these credit metrics are 
significantly stronger than they were in 2011 when the company suffered 
operational challenges related to less profitable contracts, they remain very 
weak. We expect Armtec's credit metrics to improve modestly in the next few 

Specifically, in our base case scenario we expect:
     -- Flat revenues in 2013, with modest growth in 2014;
     -- Gross margin improvement of about 160 basis points in 2013 and flat 
thereafter, reflecting the roll-off of less profitable (or unprofitable) 
projects that the company undertook in previous years;
     -- Modestly higher selling, general, and administrative expenses in 2013 
and 2014 due to incremental costs related to the company's recently announced 
reorganization; and
     -- Armtec's EBITDA margin to improve (as a result of the above) to about 
10% in 2013 and beyond from our expectation of about 9% in 2012.

Armtec's capital structure includes a costly C$125 million first-lien debt 
facility that matures in August 2013. Debt outstanding on this facility is 
accreting because the company has elected to accrue interest on the principal 
outstanding (rather than pay in cash) at a rate of approximately 12% per year. 
In our financial model we have assumed the company refinances in August 2013 
at a more favorable rate and pays cash interest on the new facility. Under 
this scenario, we expect the company to generate sufficient cash flow to 
invest in sustaining capital expenditures and minimal debt repayment in the 
next four years. Based on our current assumptions, we expect leverage to 
remain in the 6x-8x range for the foreseeable future.

While our base case scenario represents our current forecast, we note that 
there are significant downside risks, including the potential for a more 
severe contraction in end-market demand than we are currently anticipating or 
margin compression from mispriced jobs or other operational challenges. 
Conversely, actual results could materially exceed our forecast if end-market 
demand improves or Armtec's reorganization is more successful than we expect.

We assess Armtec's business risk profile as vulnerable because of the 
company's exposure to the cyclical construction industry. The company's 
operating margins and overall profitability are also vulnerable to a number of 
factors that can have a negative effect on cash flow, including its inability 
to fully pass on raw material cost increases to its customers, poorly or 
improperly bid contracts, and customer-caused project delays. Some of these 
factors severely affected Armtec's 2011 profitability. We view Armtec's 
management and governance as "fair."

We continue to view Armtec's liquidity as less than adequate based on our 
criteria. Relevant factors in our assessment of the company's liquidity 
include our opinion that:
     -- The company has limited ability to absorb low-probability adversities; 
     -- It does not have a particular core bank relationship and has a poor 
standing in credit markets as evidenced by debt securities that are trading at 
distressed levels; 
     -- Uses of liquidity exceeds sources in the next 12 months; and
     -- The impending maturity of the first-lien facility in August 2013 (with 
the possibility to extend to December 2013 at additional cost) presents 
moderate refinancing risk.

Recovery analysis
For the complete recovery analysis, see the recovery report on Armtec to be 
published on Ratings Direct on the Global Credit Portal following this report.

The stable outlook reflects our expectation that Armtec will continue to 
generate EBITDA in the range of C$40 million-C$50 million in the near term, 
which based on our current assumptions should be sufficient to fund necessary 
capital expenditures and minimal debt repayment in the next several years. We 
could lower the ratings if trailing 12-month EBITDA declines below C$40 
million or if end market demand continues to weaken. In our view, either of 
these circumstances could pressure liquidity, particularly if the company is 
obligated to pay interest on a cash basis. We are unlikely to raise the 
ratings in the near term given our view that leverage will remain elevated for 
a prolonged duration. However, we could consider an upgrade if adjusted 
debt-to-EBITDA improves to about 5.5x and interest coverage to about 2.0x.

Related Criteria And Research
     -- Methodology and Assumptions: Liquidity Descriptors For Global 
Corporate Issuers, Sept. 28, 2011
     -- Criteria Guidelines For Recovery Ratings On Global Industrials 
Issuers' Speculative-Grade Debt, Aug. 10, 2009
     -- Criteria Methodology: Business Risk/Financial Risk Matrix Expanded, 
May 27, 2009
     -- Key Credit Factors: Business And Financial Risks In The Global 
Building Products and Materials Industry, Nov. 19, 2008 
     -- 2008 Corporate Criteria: Analytical Methodology, April 15, 2008

Ratings List
Armtec Holdings Ltd. 
Ratings Lowered/Recovery Rating Revised
                                 To              From
Corporate credit rating          B-/Stable/--    B/Negative/--
Senior unsecured debt            CCC             B-
 Recovery rating                 6               5