Fitch Ratings has assigned a Long-Term Issuer Default Rating (IDR) of 'B(EXP)' to
Fitch has also assigned a rating of 'BB-(EXP)'/'RR2' to Pegasus' proposed first lien secured revolving credit facility, term loans and notes. Fitch has assigned a rating of 'CCC+(EXP)'/'RR6' to Pegasus' proposed issuance of senior unsecured notes. Proceeds from the term loans and notes will be used to cover a portion of the acquisition costs and to refinance most of Tenneco's existing capital structure.
Fitch's expected ratings apply to a proposed
Conversion of the expected ratings to final ratings is contingent on the transactions closing as contemplated and receipt of final documents conforming materially to preliminary documentation reviewed, including sizing of the new debt instruments.
Key Rating Drivers
Ratings Overview: Pegasus' IDR reflects Fitch's expected pro forma post-acquisition credit profile of Tenneco. Tenneco's leverage will increase upon the closing of the acquisition and the refinancing of its capital structure. However, Fitch expects the company could have options to accelerate debt reduction over the intermediate term as it realizes incremental benefits from its expected cost savings initiatives.
Also incorporated into the IDR are the inherent risks and cyclicality of the global auto supply industry, including risks of longer-term technological change, as over 35% of Tenneco's value-added revenue is related to light vehicle internal combustion engine (ICE) products. That said, Fitch expects demand for ICE-related products to remain relatively solid over the intermediate term, while the cash they generate will provide Tenneco with resources to invest in growth technologies. Fitch also expects demand for emission control equipment to grow in the global commercial truck and off-highway sectors as emission regulations for covering those engines continue to tighten.
Apollo Acquisition: In
Profit Improvement Initiatives: In addition to Tenneco's existing Accelerate+ plan, which aimed to reduce run-rate annual costs by
Potential FCF Growth: Fitch expects FCF (based on Fitch's calculations) could grow over the next several years if Tenneco realizes benefits from its cost savings initiatives. FCF over the intermediate term will also be supported by benefits from actions the company has taken over the past couple of years to manage working capital and improve capex efficiency. However, higher cash interest costs related to the new debt, as well as costs to attain the aforementioned cost savings, will offset a portion of these benefits in the near term.
Fitch expects capex to run at about 2% of gross revenue going forward, down from historical levels closer to 4%, as the company focuses on improved capital utilization. Going forward, Fitch expects Tenneco to generate low-single digit value-added FCF margins once operating conditions stabilize.
Elevated Initial Leverage: Fitch expects Tenneco's gross leverage to rise upon closing of the acquisition, with the amount of new debt expected to be over
Reduced Liquidity: With the proposed new revolver sized at only
Derivation Summary
Tenneco has a relatively strong competitive position focusing on powertrain, clean air and ride performance technologies for original equipment manufacturers (OEMs) of passenger vehicles, commercial vehicles and off-road equipment. It also has a large presence in branded automotive aftermarket parts and components. The company's Tier 1 technologies are likely to grow in demand over the intermediate term as OEMs increasingly focus on ways to improve powertrain fuel efficiency, reduce emissions and improve vehicle ride quality. At the same time, the company's aftermarket business insulates it somewhat from the heavier cyclicality of the Tier 1 business while providing growth opportunities as the on-road vehicle fleet ages in both developed and developing markets.
Although the company's clean air and powertrain businesses will likely be pressured over the longer term as the global auto industry increasingly focuses on electrification, in the intermediate term, tightening emissions regulations in the global commercial truck and off-highway sectors will likely drive increased demand for Tenneco's emission control products for internal combustion engines. At the same time, growing demand for increasingly sophisticated suspensions is likely to result in higher demand for the ride control business' more profitable active suspension systems. However, compared with auto suppliers that focus on high-technology, software-based vehicle safety and automation systems, such as
Tenneco is among the largest
Key Assumptions
Fitch's Key Assumptions Within Our Rating Case for the Issuer
The acquisition by Apollo is completed in the fourth quarter of 2022;
Global light vehicle production rises about 3% in 2022, with a further modest recovery in production seen in subsequent years as an improving supply chain is partially offset by weaker macro conditions in the
EBITDA margins rise over the next several years on higher business levels, cost savings initiatives and a more stable operating environment;
Capex runs at about 2% of revenue over the next several years;
The FCF margin is slightly negative in 2022, then it turns positive and grows in subsequent years as the global production environment stabilizes and the company achieves cost savings benefits;
The company maintains a solid liquidity position over the next several years, including cash and credit facility availability.
KEY RECOVERY RATING ASSUMPTIONS
The recovery analysis assumes that Tenneco would be reorganized as a going-concern in bankruptcy rather than liquidated.
Fitch has assumed a 10% administrative claim.
Going-Concern (GC) Approach
Tenneco's recovery analysis estimates a GC EBITDA at
Fitch has used a 5.0x multiple to calculate a post-reorganization valuation. According to the 'Automotive Bankruptcy Enterprise Values and Creditor Recoveries' report published by Fitch in
Fitch utilizes a 5.0x enterprise value (EV) multiple based on Tenneco's global market position, including its position as a supplier to a number of top global vehicle platforms, and the non-discretionary nature of its aftermarket products. For comparison, Apollo's purchase price for Tenneco implies an EV of about 4.6x Tenneco's LTM pro forma EBITDA (according to Apollo's EBITDA calculation) as of
Consistent with Fitch's criteria, the recovery analysis assumes that off-balance-sheet factoring is replaced with a super-senior facility that has the highest priority in the distribution of value. Fitch also assumes a full draw on the company's proposed
The
RATING SENSITIVITIES
Factors that Could, Individually or Collectively, Lead to Positive Rating Action/Upgrade
Realization of the company's
A sustained value-added FCF margin of 0.5% on a consistent basis;
Sustained decline in gross EBITDA leverage to 4.0x;
Sustained increase in EBITDA interest coverage above 4.0x and FFO interest coverage above 3.0x.
Factors that Could, Individually or Collectively, Lead to Negative Rating Action/Downgrade
Liquidity pressure arising as a result of the company's smaller revolver;
Sponsor-initiated actions that reduce the company's financial flexibility;
A sustained negative value-added FCF margin;
Sustained gross EBITDA leverage above 5.0x without a clear path to de-levering;
Sustained EBITDA interest coverage below 2.5x and FFO interest coverage below 1.5x.
Best/Worst Case Rating Scenario
International scale credit ratings of Non-Financial Corporate issuers have a best-case rating upgrade scenario (defined as the 99th percentile of rating transitions, measured in a positive direction) of three notches over a three-year rating horizon; and a worst-case rating downgrade scenario (defined as the 99th percentile of rating transitions, measured in a negative direction) of four notches over three years. The complete span of best- and worst-case scenario credit ratings for all rating categories ranges from '
Liquidity and Debt Structure
Adequate Liquidity: Fitch expects Tenneco to maintain adequate liquidity following its acquisition by Apollo. As of
Following the acquisition and the changes to its capital structure, Tenneco will have no significant debt maturities until 2028, when its proposed secured notes and the majority of its secured term loans will mature. That said, the maturity of the new secured revolver is expected to be in 2027.
According to its criteria, Fitch has treated
Debt Structure: Following the overhaul of its capital structure, Tenneco's debt will primarily consist of
In addition to its balance sheet debt, Fitch expects Tenneco to continue with about
Tenneco's off-balance sheet factoring includes the effect of supply-chain financing programs with some of the company's aftermarket customers with whom it has entered into extended payment terms. If the financial institutions involved in these programs were to curtail or end their participation, Tenneco might need to borrow from its revolver to offset the effect, but it could also mitigate at least a portion of the effect by exercising its contractual right to shorten the payment terms with these particular aftermarket customers.
Issuer Profile
Pegasus is an affiliate of funds managed by Apollo that will merge with Tenneco to effectuate Apollo's acquisition of Tenneco. Tenneco is a global automotive supplier that sells products to both original equipment manufacturers and the automotive aftermarket.
ESG Considerations
Tenneco has an ESG Relevance Score of '4[+]' for GHG Emissions & Air Quality due to the company's positioning as a top supplier of products that reduce vehicle emissions from internal combustion engines, which has a positive impact on the credit profile and is relevant to the ratings in conjunction with other factors.
Unless otherwise disclosed in this section, the highest level of ESG credit relevance is a score of '3'. This means ESG issues are credit-neutral or have only a minimal credit impact on the entity, either due to their nature or the way in which they are being managed by the entity. For more information on Fitch's ESG Relevance Scores, visit www.fitchratings.com/esg
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