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Rating Action:

MOODY'S ASSIGNS Ba3 RATING TO PROPOSED BANK FACILITY OF CARROLS CORPORATION AND DOWNGRADES SENIOR SUBORDINATED NOTES TO B3

17 Nov 2000
MOODY'S ASSIGNS Ba3 RATING TO PROPOSED BANK FACILITY OF CARROLS CORPORATION AND DOWNGRADES SENIOR SUBORDINATED NOTES TO B3

Approximately $420 Million of Debt Affected.

New York, November 17, 2000 -- Moody's Investors Service assigned a Ba3 rating to the proposed $250 million senior secured credit facility of Carrols Corporation. Moody's also lowered the $170 million 9.5% senior subordinated notes due 2008 to B3 from B2. The company's senior implied rating was lowered to B1 from Ba3 and the issuer rating fell to B2 from B1. We will withdraw the Ba3 rating on the existing $155 million credit facility once this transaction is complete. The rating outlook is stable. This concludes the review for possible downgrade that commenced on October 11, 2000.

The rating of the proposed credit facility and review of the other ratings was prompted by the company's intention to buy the Taco Cabana restaurant chain for total consideration of $154.5 million, or about 6 times trailing twelve months EBITDA. Taco Cabana operates or franchises a chain of 126 Tex-Mex themed quick service restaurants principally in the San Antonio, Houston, and Austin marketplaces. Carrols will use the $250 million senior secured credit facility to complete the tender offer for all Taco Cabana's equity, to refinance Taco Cabana's debt, and to refinance Carrols existing $155 million senior secured credit facility.

The ratings reflect the company's leveraged financial condition (especially when adjusted for off balance-sheet lease obligations), the intense competition within the quick service restaurant industry, the relatively geographic concentration of each concept, and the lack of obvious operational synergies between the three concepts. The ratings also consider the unexpectedly weak performance of the Burger King system over the past two years (even though Carrols has generally performed better than the overall Burger King system) and our opinion that a recovery is not yet visible.

However, the ratings recognize that the Burger King name is very well known and the company's position as the second largest Burger King operator allows economies of scale not available to smaller competitors. Revenue diversification (from the Pollo Tropical acquisition in July 1998) also supports the ratings during periods that Burger King performs poorly.

The $250 million senior secured credit facility includes a $100 million five-year revolving credit facility, a $75 million five-year Term Loan A, and a $75 million seven-year Term Loan B. Term Loan B has nominal amortization for the first five years. The Ba3 rating on the credit facility considers that this loan is secured by substantially all of the company's real and personal property, the stock of the operating company, and collateral assignments on the sale or transfer of all Burger King franchise agreements. Even given that the company owns a small fraction of the restaurant real estate, we believe that the security provides reasonable protection.

The B3 rating on the senior subordinated notes recognizes that, while the notes are guaranteed by all of the company's operating subsidiaries on a senior subordinated basis, the notes are contractually subordinated to a significant amount of more senior debt. A modest test for incurring additional senior debt (EBITDA to interest test of 2 times pro-forma for acquisitions versus current actual coverage of 2.6 times) also impacts the ratings.

The stable outlook considers the expected successful acquisition of Taco Cabana (as occurred with Pollo Tropical) and our opinion that, even if Burger King performance remains lackluster, the company will be able to modestly delever going forward. A significant Burger King turnaround that provides the company with cash to delever sooner than anticipated would benefit the ratings.

The entire Burger King system has experienced difficulties for more than two years as measured by market share (within the hamburger segment) and same store sales. Customer counts have fallen as the franchisor has been unable to find a marketing strategy that effectively lures customers away from strong competitors. Same store sales at the Burger King restaurants operated by Carrols have generally fared better than the Burger King system average, but results have been weak since the end of 1998. During 1998, the company's Burger King division achieved a segment operating margin of 8.8% versus 6.1% in 1999 and 7.3% for the twelve months ending September 2000.

Diversification away from Burger King (last twelve months revenue $378 million) has benefited the company over the last two years. Pollo Tropical (last twelve months revenue $88 million) has offset the margin decline that otherwise would have occurred if Carrols had continued to only operate Burger King restaurants. The Pollo Tropical segment operating margin of 17.6% for the twelve months ending September 2000 has improved by about 1.5% since becoming part of Carrols. Corporate operating margin of 7.2% for the twelve months ending September 2000 compared to operating margins of 7.6% in 1998 and 6.2% in 1999. We believe that the addition of Taco Cabana (last twelve months revenue $166 million) will further insulate the company from Burger King performance, but do not anticipate that Taco Cabana will have operating margins as high as those of Pollo Tropical.

Given that the company's three concepts have different menu focuses and operate in widely separated geographic regions, we do not foresee substantial synergies from adding Taco Cabana to the company. However, lessons learned from the successful addition of Pollo Tropical should lessen the risks involved in purchasing Taco Cabana. We believe that Taco Cabana management will singlemindedly concentrate on restaurant operations after eliminating the distractions and short-term pressures of managing a small publicly traded company.

For the twelve months ending September 2000, EBITDA covered interest by 2.6 times and adjusted debt to EBITDAR equaled 5.4 times. EBITDA margin grew to 12.4% in the first nine months of 2000 versus 11.1% in the corresponding period of 1999 as margins at both Burger King and Pollo Tropical slightly improved in the most recent period. Pro-forma for the Taco Cabana acquisition, leverage and interest coverage were about the same as actual results for the most recent twelve months. Going forward, we anticipate that the company will use most cash flow in excess of interest payments and moderate capital expenditures to pay down debt. We expect that interest coverage will exceed 3 times and adjusted leverage will fall below 5 times within the next two years.

Carrols Corporation, headquartered in Syracuse, New York, operates 45 Pollo Tropical Latin-themed quick service restaurants and, as the second largest Burger King franchisee, 354 Burger King quick service hamburger restaurants.

New York
Michael Rowan
Managing Director
Corporate Finance Group
Moody's Investors Service
JOURNALISTS: (212) 553-0376
SUBSCRIBERS: (212) 553-1653

New York
Richard Baldwin
Associate Analyst
Corporate Finance Group
Moody's Investors Service
JOURNALISTS: (212) 553-0376
SUBSCRIBERS: (212) 553-1653

No Related Data.
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