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Rating Action:

MOODY'S CONFIRMS RATINGS OF FEDERATED DEPARTMENT STORES, INC. (SENIOR UNSECURED AT Baa1 AND SHORT-TERM AT PRIME-2); OUTLOOK NEGATIVE

29 Aug 2005
MOODY'S CONFIRMS RATINGS OF FEDERATED DEPARTMENT STORES, INC. (SENIOR UNSECURED AT Baa1 AND SHORT-TERM AT PRIME-2); OUTLOOK NEGATIVE

Approximately $4.3 Billion in Debt Securities Affected

New York, August 29, 2005 -- Moody's Investors Service confirmed the ratings of Federated Department Stores, Inc., including its senior unsecured rating of Baa1 and its Prime-2 short-term rating, based on the company's track record of effectively integrating its department store acquisitions, the prudent use of equity and asset sale proceeds to fund a significant portion of the $17 billion consideration for the pending acquisition of The May Department Stores Company, the economies of scale that can be achieved when May is fully absorbed and the likelihood that Federated's merchandise assortments will boost comparable store sales at May. The rating outlook is negative, however, given that Federated's credit metrics will trail historical levels until fiscal 2007, when material synergies and asset sales have been achieved, and the risk that these metrics could fail to improve as fast and to the extent required to maintain the Baa1 rating. This rating action concludes the review for possible downgrade announced on February 28, 2005.

Federated's ratings are based on its geographically diversified department store operations, well recognized banners, merchandising expertise that has achieved generally positive comparable store sales increases, and free cash flow generation excluding acquisitions that is sufficient to fund debt repayments, dividends and share repurchases internally. The pending acquisition of May will expand Federated's annual sales to nearly $30 billion, with stores in 64 of the country's largest 65 markets. The manageable physical overlap of Federated and May has limited planned store closures to date to a modest 68 locations (about $2 billion of combined sales). Re-branding of May's regional chains to the well-known Macy's banner and, more importantly, the re-merchandising of May's stores by Federated should boost the negative or anemic comparable store sales experienced by these stores during May's ownership. Opportunities to consolidate support functions should also contribute to projected synergies, estimated at $450 million by fiscal 2007 -- an aggressive amount, but not improbable given combined annual operating expenses of almost $8 billion in fiscal 2004. One-time costs, though, will total about $1 billion over the next three years.

Federated will fund approximately 50% of the $11 billion purchase of May's common stock with the issuance of new Federated equity. In addition, Federated has entered into an agreement with Citigroup to sell its credit receivables for after-tax proceeds of approximately $2.3 billion (after paying $1.2 billion in outstanding asset-backed securities), expected to be received in the third fiscal quarter of 2005. Citigroup will also purchase May's credit portfolio ($2.2 billion at the end of fiscal 2004) within 12 months of Federated's acquisition of May. The use of equity and credit portfolio proceeds to fund approximately $10 billion of the $17 billion consideration will somewhat cushion the negative impact on post-acquisition adjusted leverage. The purchase from General Electric Capital Corporation and the re-sale to Citigroup of the Federated retail receivables currently owned by GECC ($1.2 billion at fiscal year end 2004) will preclude a potential increase in adjusted leverage. However, leverage will increase due to both the reduction in operating earnings after the credit businesses are sold and Federated's assumption of May's $5.8 billion of funded debt.

The rating outlook is negative, reflecting the risk that it could take Federated longer than 12-18 months post-acquisition to restore credit metrics to pre-acquisition levels. Federated has little cushion at the Baa1 level for softer than anticipated free cash flow or for slower than anticipated debt reduction.

Federated's Baa1 rating could be downgraded if asset sale proceeds, synergistic cost savings and improved sales in May legacy stores are not realized in a timely fashion, if disruption from the integration process diminishes comparable store sales growth, and/or if free cash flow is allocated to material share repurchases before repayment of acquisition related debt. Ratings could also be downgraded if it becomes unlikely that, by the end of fiscal 2007, credit metrics will reach fiscal 2004 levels using Moody's standard analytical adjustments; namely, debt to EBITDA (including one time charges) no greater than 2.7 times, free cash flow to debt of at least 15%, and EBIT to interest at 3.6 times or greater.

The rating outlook could stabilize if May is integrated on schedule, if new merchandise assortments boost comparable store sales in the legacy May stores, if post-acquisition financial policy targets debt reduction and if credit metrics reach pre-acquisition levels sooner than expected.

Ratings confirmed:

Senior unsecured notes, debentures, and bonds at Baa1

Senior unsecured shelf at (P)Baa1

Preferred stock shelf at (P)Baa3

Commercial paper at Prime-2

Headquartered in Cincinnati, Federated Department Stores, Inc. operates more than 450 stores in 34 states, Guam and Puerto Rico. Banners include Macy's and Bloomingdale's. The company also operates macys.com and Bloomingdale's By Mail. Sales in fiscal 2004 exceeded $15.6 billion.

New York
Angela Jameson
Managing Director
Corporate Finance Group
Moody's Investors Service
JOURNALISTS: 212-553-0376
SUBSCRIBERS: 212-553-1653

New York
Elaine E. Francolino
VP - Senior Credit Officer
Corporate Finance Group
Moody's Investors Service
JOURNALISTS: 212-553-0376
SUBSCRIBERS: 212-553-1653

No Related Data.
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