MOODY'S ASSIGNS Ba2 TO PROPOSED BANK LOAN OF FLEMING COMPANIES, Ba3 TO PROPOSED SENIOR NOTES, AND CONFIRMS ALL OTHER RATINGS
Approximately $3.0 Billion of Debt Affected.
New York, June 10, 2002 -- Moody's Investors Service rated the following proposed new issues of Fleming
Companies, Inc. (subject to review of final documentation):
$950 million "New" secured credit facility assigned at Ba2,
$200 million 8-year senior notes assigned at Ba3.
Moody's also confirmed other ratings as follows:
$699 million "Old" secured credit facility at Ba2,
$355 million 10 1/8% senior notes (2008) at Ba3,
$400 million 10 5/8% senior subordinated notes (2007) at
$150 million 5 ¼% convertible senior subordinated
notes (2009) at B2,
$260 million 9 7/8% senior subordinated notes (2012) at
Senior implied rating at Ba3, and the
Long-term issuer rating at B1.
Proceeds from the new debt, together with $200 million in
new equity, will be used to refinance the Old credit facility and
to fund the $390 million acquisition of the convenience store distributor
Core-Mark. The rating on the Old credit facility will be
withdrawn once it has been repaid. The rating outlook is revised
to negative from stable.
The ratings reflect the company's leveraged financial condition and that,
while equity will increase by $200 million as a result of the transaction,
funded debt will also increase by about $230 million with the potential
for additional borrowings from the revolving credit facility. Restraining
the ratings are the uncertainty related to resolution of the Kmart bankruptcy
and the large post-filing losses reported by Kmart, Fleming's
largest customer with 20% of sales during 2001 (declines to pro-forma
16% after the acquisition). Directly, or indirectly
through its customers, the company competes with respected retailers
such as Wal-Mart (senior unsecured rating of Aa2), Target
(senior unsecured rating of A2), and the national supermarket chains.
The intense competition within the fragmented distribution industry,
the challenges in effectively integrating anticipated future distribution
acquisitions, and the necessity to replace clients lost in the consolidating
supermarket industry also impact Moody's views of the risks facing Fleming.
However, the ratings recognize Fleming's status as the nation's
largest food distributor, the economies of scale that the company
can bring relative to its smaller competitors, and the company's
position as the only national grocery distributor. The new position
as the only national convenience store distributor alternative to McLane
(a unit of Wal-Mart) could prove appealing to potential customers.
The ratings also consider the company's efforts to diversify its wholesale
customer base (such as the recent supply agreement with Albertson's) and
ongoing operating improvements in the company's wholesale and retail segments.
The negative outlook considers our belief that the ratings will be constrained
until the status of Kmart becomes clearer and Fleming proves that the
acquisition strategy provides acceptable returns. We do not believe
that significant leverage and fixed charge coverage improvements can reliably
be expected over the intermediate term. Factors that could lead
Moody's to consider a negative rating action include materially adverse
affects from the Kmart situation, inability to replace the normal
attrition of wholesale customers, or failure to effectively integrate
the new acquisitions. Reversal of recent modest improvements in
interest coverage, return on assets, and operating margin
also would cause concerns regarding the current rating levels, particularly
given that similarly rated food distributors have better debt protection
measures. For Moody's to consider a positive rating action,
the company would need to successfully diversify its wholesale revenue
base (including profitably integrating the new acquisitions), to
successfully continue the retail strategy of expanding price-impact
supermarket store count, and to make material improvements in debt
The Ba2 rating on the New bank loan recognizes the seniority of this debt
relative to other parts of the capital structure. The New bank
loan will be comprised of a $600 million revolving credit facility
and a $350 million term loan. The accounts receivable and
inventory of the company and its subsidiaries, as well as the equity
shares and guarantees of all domestic operating subsidiaries, secure
this loan. Relative to the Old bank loan, the New bank loan
is expected to have a meaningfully tighter asset coverage covenant.
The bank loan will have covenants that place limitations on borrowing
to fund acquisitions. As of April 2002, about $240
million of the Old $600 million revolving bank facility (matures
July 2003) was available.
The Ba3 rating on the two issues of senior unsecured notes reflects,
besides the guarantees provided by subsidiaries, their effective
subordination to the secured bank loan. Moody's expects that the
new bond indenture will be similar to the 2008 indenture. The notching
at the senior implied rating recognizes that there are effectively restrictions
on incurring more secured debt unless the company performs well.
The B2 rating on the three issues of senior subordinated notes considers
that the notes are guaranteed by the operating subsidiaries but are contractually
subordinate to substantial amounts of senior debt. Besides these
rated issues, the company called a $250 million 10 ½%
senior subordinated note issue at 102.63% of par on June
1, 2002 using cash held in escrow. The 2012 indenture establishes
a fixed charge coverage ratio test of 2.25 to 1 for the incurrance
of additional debt.
Adjusted debt (equals balance sheet debt plus 8 times gross rent expense)
to EBITDAR of 5.7 times (based on reported results without adjustments)
and fixed charge coverage of 1.5 times for the twelve months ending
April 20, 2002 were relatively high compared to similarly rated
grocery distribution companies. Operating margin of 1.6%
over the last 12 months has improved compared to previous periods as the
company improves distribution efficiencies and focuses on a value-priced
supermarket retailing strategy. Gross margins have consistently
fallen year over year, as low-margin wholesale revenue becomes
a larger part of the revenue mix compared to retail revenue. Tangible
equity will decline as a result of this transaction as the Core-Mark
acquisition contributes about $260 million of goodwill, versus
almost $200 million of new equity.
Kmart is Fleming's most important customer with 23% of sales during
the first quarter of 2002. Kmart received bankruptcy court approval
to initially close 283 stores (about 13% of Kmart's store count).
Moody's expects that cash flow generation will only be modestly impacted
from the closure of these generally low-volume stores as,
pro-forma for the Core-Mark acquisition and the store closures,
Kmart declines to about 16% of sales. While Moody's believes
that Kmart does not have a better substitute for Fleming's national grocery
distribution capabilities, the poor operating performance at Kmart
with losses of $269 million, $175 million, and
$1.0 billion in February, March, and April,
respectively, and large comparable store sales declines since the
January 2002 bankruptcy filing raise substantial concerns about Kmart's
prospects, in spite of its $1.8 billion cash balance.
The possibility that more Kmart stores could be closed or that Kmart strategy
could change during the bankruptcy process represents a setback for Fleming's
The acquisitions of two convenience store distributors, Core-Mark
in the West and Head in the Southeast, complement Fleming's existing
convenience store distribution system in the Northeast and virtually completes
the only nationwide piece-pick distribution network besides McLane.
In contrast with most other major grocery wholesalers that have expanded
to derive a significant fraction of their revenue from supermarket operations,
Fleming's retail segment has fallen to 13% of revenue. Previously
we had expected that revenue growth would largely occur as the result
of organic customer wins, but Moody's now understands that the company
intends to devote a sizable proportion of future investment capital to
acquiring traditional grocery and piece-pick distributors.
In Moody's view, the plan to undertake a significant acquisition
program has potential long-term benefits in terms of revenue and
cash flow, compared to the strategy of organic growth, but
Fleming Companies, Inc., with principal executive offices
in Lewisville, Texas, is a leading food distribution company
serving approximately 3000 supermarkets (including 116 company-owned
grocery stores), 6800 convenience stores, and 2000 other retail
locations. With the acquisition of Core-Mark International,
Inc of South San Francisco, California and Head Distributing Inc.
of Smyrna, Georgia, the company will add about 33000 additional
convenience store customers.
Robert N. McCreary
Senior Vice President
Corporate Finance Group
Moody's Investors Service
Asst Vice President - Analyst
Corporate Finance Group
Moody's Investors Service