TEXT-S&P rates National CineMedia
Overview -- U.S.-based theater advertising company National CineMedia LLC is amending and extending its senior secured term loan. -- We are assigning the amended and extended facilities a 'BB-' issue-level rating and a '3' recovery rating, the same as the existing term loan ratings. -- The stable rating outlook on the corporate credit rating reflects our expectation that National CineMedia Inc. will maintain leverage in the high 3x to 4x range over the intermediate term, despite its aggressive dividend policy. Rating Action On Nov. 9, 2012, Standard & Poor's Ratings Services assigned its 'BB-' issue-level rating (the same as our 'BB-' corporate credit rating on the company) to Centennial Colo.-based National CineMedia LLC's amended and extended senior secured credit facilities. The facilities consist of a $265 million term loan due 2019, a $110 million revolving credit facility due 2017, and a $14 million revolving credit facility due 2014 (already rated). We also assigned a '3' recovery rating to the term loan and revolving credit facility due 2017, indicating our expectation of meaningful (50% to 70%) recovery for lenders in the event of a payment default. The proposed transaction extends the maturity of the company's term loan B to 2019 from 2015. We affirmed all other related ratings on the company, including the 'BB-' corporate credit rating. The rating outlook is stable. We analyze National CineMedia Inc. (NCM Inc.) and operating subsidiary National CineMedia LLC on a consolidated basis. Rationale Rationale The rating on National CineMedia Inc. reflects Standard & Poor's expectation that NCM Inc. will maintain its strong EBITDA margin, its conversion of EBITDA to free operating cash flow, and its leverage in the high 3x to 4x range over the intermediate term, despite its aggressive dividend policy. We consider the company's business risk profile as "fair" (as per our criteria), based on its historically strong EBITDA margin and good market position. A high dividend payout and minimal cash retention by operating subsidiary NCM LLC underpin our view of the company's "aggressive" financial risk profile, despite its relatively moderate leverage. Operating subsidiary NCM LLC is the larger of two competing in-theater advertising networks in North America. Our assessment of NCM Inc.'s "fair" business risk stems from the company's high EBITDA margin and long-term contracts with the three largest national movie exhibitors in the U.S.: American Multi-Cinema Inc., a wholly owned subsidiary of AMC Entertainment Inc.; Regal Cinemas Corp., a wholly owned subsidiary of Regal Entertainment Group; and Cinemark USA Inc., a wholly owned subsidiary of Cinemark Holdings Inc. These contracts provide significant barriers to entry to new entrants in addition to revenue visibility. A key risk is that once NCM Inc. is able to sell all or nearly all of its inventory, declining theater attendance could hurt performance, because national advertisers pay NCM based on a cost per thousand viewers (CPM) advertising pricing metric. We believe that there is limited pricing upside, given in-theater advertising's already high rates, which are roughly comparable to broadcast television. Unlike many other advertising media, NCM Inc. has minimal ability to expand its ad inventory and, therefore, relies on inventory utilization, ad rate increases, and winning theater chain clients from its key competitor, to generate revenue growth. Under our base-case scenario, we expect revenue will be flat to up at a low single-digit percent rate in the fourth quarter of 2012, reflecting robust local advertising growth and weaker national advertising demand. We expect that EBITDA will be flat to down at a low double-digit percent rate because of higher access fees paid to theaters as a result of the continued expansion of the company's screen count. In 2013, we expect revenue and EBITDA to rise at a low- to mid-single-digit percentage rate. We expect NCM Inc.'s attendance base to increase at a low-single-digit percentage rate as it continues to expand its screen count, albeit at a slower rate. We also expect NCM Inc. to continue expanding its inventory utilization and rate as a result of expanding the number of advertising clients. We estimate NCM Inc.'s EBITDA margin will decline about 200 basis points in the fourth quarter as a result of higher expenses and remain relatively flat, in the high 40% area in 2013. In the third quarter of 2012, revenue and EBITDA increased 5.7% and 6.4%, respectively, because of an increase in inventory utilization and higher advertising rates, partly offset by higher theater access fees. For the 12 months ended Sept. 27, 2012, the EBITDA margin was strong at 48%--roughly even with the prior-year period. Debt to EBITDA for the 12 months ended Sept. 27, 2012, pro forma for the proposed amendment, increased to 4.0x from 3.4x in the prior-year period, because of higher debt balances. Debt will increase by about $40 million as a result of the proposed amendment, with the majority of the proceeds going to pay fees and to unwind interest rate swaps. Leverage is in line with the 4x to 5x range of debt leverage that we regard as indicative of an "aggressive" financial risk profile, and the company distributes nearly all of its free cash flow to shareholders and its founding members as long as leverage remains below 6.5x. EBITDA coverage of interest declined to 3.9x from 4.9x in the prior-year period as a result of higher interest expense on the notes issued in April 2012 and higher debt balances. We expect debt leverage to remain in the high 3x to 4x range, based on our outlook for revenue and EBITDA growth over the next year. NCM Inc. converted half of EBITDA into free operating cash flow (one-time swap termination fees) in the 12 months ended Sept. 27, 2012. Distributions are high, at about 56% of EBITDA for the 12 months ended Sept. 27, 2012. Excluding swap termination fees, discretionary cash flow was slightly negative by about $13 million (or 6% of EBITDA) for the 12 months ended Sept. 27, 2012, because of working capital becoming a greater use of cash flow. We expect NCM LLC to continue to distribute more than 90% of its free operating cash flow to its founding members and its parent company's shareholders, subject to a leverage ceiling of 6.5x. We expect the operating subsidiary to generate good free operating cash flow, but that dividends will result in minimal discretionary cash flow (less than 10% of EBITDA) and cash. Liquidity Liquidity is "adequate" to cover NCM Inc.'s operating and capital needs over the next 12 to 18 months, in our view. We believe any further shareholder-favoring initiatives could weaken the liquidity profile. Our assessment of NCM Inc.'s liquidity profile incorporates the following expectations and assumptions: -- We expect NCM Inc.'s sources of liquidity over the next 12 to 18 months will exceed uses by over 1.2x. -- We expect that liquidity sources would remain positive, even with a 15% to 20% EBITDA decline. -- We expect NCM Inc. can maintain covenant compliance, even if EBITDA drops 15%. -- NCM Inc. can absorb high-impact, low-probability adversities by reducing its distributions to equity holders. -- We believe the company has good relationships with its banks and a satisfactory standing in the credit markets. Liquidity sources include cash balances of $8 million as of Sept. 27, 2012, at NCM LLC, our expectation of healthy free operating cash flow, and borrowing access under the company's revolving credit facility. The company has access to $94 million under the upsized $119 million revolver. Uses of liquidity include dividends and distributions to NCM Inc.'s founding members and NCM Inc., and working capital requirements and capital expenditures of about $30 million to $40 million, combined. We believe that NCM will generate funds from operations of roughly $170 million to $190 million in 2012 and 2013 (before one-time swap termination fees). We expect NCM Inc. to distribute virtually all of its free operating cash flow to founding members and to NCM Inc., resulting in minimal discretionary cash flow. NCM had roughly a 55% EBITDA cushion against its senior debt leverage covenant on Sept. 27, 2012. We expect it to maintain sufficient covenant headroom over the intermediate term. Recovery analysis We rate National CineMedia LLC's senior secured credit facilities and senior secured notes 'BB-' (the same as the corporate credit rating) with a '3' recovery rating. The '3' recovery rating reflects our view that lenders would experience meaningful (50% to 70%) recovery in the event of a payment default. We rate the company's senior unsecured notes 'B' (two notches below the corporate credit rating) with a recovery rating of '6', indicating the likelihood of negligible (0% to 10%) recovery. (For the complete recovery analysis, see Standard & Poor's recovery report on rate National CineMedia, published May 2, 2012, on RatingsDirect.) Outlook The stable rating outlook reflects our expectation that NCM Inc. will continue generating good cash flow from operations and maintain leverage in the high-3x to 4x area over the next year. We also believe it will maintain an adequate margin of compliance with covenants. We could lower our rating if adjusted debt to EBITDA rises above 4.5x because of a more aggressive policy that increases debt through a debt-financed acquisition or higher dividends. A downgrade would be especially likely if further EBITDA declines or a narrowing of liquidity are accompanied by more aggressive financial policies such as a high single-digit percentage rate revenue decline and a high-teens percent EBITDA decline that are not offset by reductions in dividend distributions to founding members and NCM Inc. could raise leverage, resulting in a downgrade. Although unlikely over the intermediate term, we could raise our rating if there is a deliberate move by management and shareholders to improve and maintain higher liquidity, especially at NCM LLC, by reducing the amount of cash flow distributed to shareholders and the founding members. Related Criteria And Research -- Methodology: Business Risk/Financial Risk Matrix Expanded, Sept. 18, 2012 -- Liquidity Descriptors for Global Corporate Issuers, Sept. 28, 2011 -- Standard & Poor's Revises Its Approach To Rating Speculative-Grade Credits, May 13, 2008 -- 2008 Corporate Criteria: Analytical Methodology, April 15, 2008 -- 2008 Corporate Criteria: Rating Each Issue, April 15, 2008 Chris Valentine's temporary telephone number is (646-300-4670) Ratings List Ratings Affirmed National CineMedia LLC National CineMedia Inc. Corporate Credit Rating BB-/Stable/-- National CineMedia LLC Senior Secured BB- Recovery Rating 3 Senior Unsecured B Recovery Rating 6 New Rating National CineMedia LLC Senior Secured US$265 mil term B bank ln due 2019 BB- Recovery Rating 3 US$110 mil revolver bank ln due 2017 BB- Recovery Rating 3 Complete ratings information is available to subscribers of RatingsDirect on the Global Credit Portal at www.globalcreditportal.com. 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