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Rating Action:

MOODY'S RATES ORIENTAL TRADING'S NEW FACILITY Ba3, DOWNGRADES EXISTING RATINGS

09 Jul 2003
MOODY'S RATES ORIENTAL TRADING'S NEW FACILITY Ba3, DOWNGRADES EXISTING RATINGS

Approximately $290 Million of Debt Rated

New York, July 09, 2003 -- Moody's Investors Service downgraded the existing ratings of Oriental Trading Company, Inc. ("OTC"), and assigned a rating of Ba3 to the company's new revolving credit and term loan facilities. The rating outlook is stable.

The rating actions follow a decision by Oriental Trading to redeem a large amount of holding company preferred stock with senior secured bank debt. Prior ratings had incorporated the expectation that Oriental Trading would use its free cash flow to reduce debt, and that debt at the operating company would not increase. The proposed transaction significantly increases the level of secured debt at the operating company, which is the rated entity. The ratings continue to reflect the strength and consistency of Oriental Trading's business, and its ability to comfortably service the new debt levels.

The following ratings were affected by this action:

Senior implied rating to Ba3 from Ba2;

Senior secured credit facilities to Ba3 from Ba2;

Senior unsecured issuer rating to B1 from Ba3.

Ratings of Ba3 were assigned to OTC's new $40 million secured revolving credit facility and $250 million secured amortizing term loan.

Ratings of the existing bank debt will be withdrawn when the new facilities are closed.

The ratings continue to recognize OTC's good cash flow generation, which has been sufficient to service debt resulting from its leveraged buyout in 2000 and to internally finance growth objectives and operating needs; debt protection measures which are generally strong relative to other companies in OTC's rating category; demonstrated low demand volatility despite the discretionary nature of its products; the benefits of diversification from a large and fragmented customer base; and low inventory risk as a result of low product obsolescence and consistently high gross margins.

The ratings also recognize OTC's ability to leverage certain operating costs as it continues to grow existing business lines, tempered by high growth in catalog costs and the need to finance additional infrastructure within the medium term if the company meets growth expectations.

The ratings reflect the replacement of preferred obligations at the parent level with secured debt at the operating company, albeit at a lower effective interest cost; short term risks to profitability due to high growth in catalog spending; exposure to external shocks, such as increases in paper and postage costs and political risks affecting vendors in Asian markets; and seasonality of operating income and cash flow generation, which is concentrated in the fourth calendar quarter. OTC's sales are closely tied to holidays and special events, and leveraging of fixed costs causes profits to rise disproportionately during the holiday quarter.

The rating outlook is stable. More efficient operations and higher operating leverage due to sales growth increased the operating cash flow available for debt reduction. Moody's expects OTC's gross income to continue to grow more quickly than operating expenses, which should continue to improve debt servicing capability. However, the rating and outlook consider that OTC has demonstrated a pattern of replacing or increasing debt levels through subsequent refinancing of its debt agreements. The new term facility has a small annual amortization requirement as well as a cash sweep mechanism for excess cash flow (as defined). The new facilities also allow for an increase in debt levels under certain conditions which have yet to be defined. A negative rating or outlook action could follow a decline in fundamental business performance or increase in debt levels, either of which would result in deterioration in leverage measures. Ratings could also respond negatively to a change in business strategy or a rise in expenditures that do not produce commensurate returns. Ratings could rise if OTC demonstrates a commitment to permanent reduction in debt levels.

Following this transaction, OTC's projected debt to EBITDA will increase to 2.5 times, and fixed cost coverage, including catalog costs, is expected to be 1.5 times. The ratings anticipate that sales and gross profits will continue to rise more quickly than catalog and other operating expenses due to a certain amount of price elasticity and continued opportunities to prospect for new customers. Moody's notes that OTC may need to increase distribution capacity if sales continue current growth trends, which could require expenses to increase or could temporarily reduce operating margins.

The new bank facilities consist of a $40 million five-year revolving credit facility and a $250 million term loan with final maturity of seven years from closing. The term loan will have quarterly amortization payments totaling $13 million annually starting the quarter after closing. Both facilities are fully secured by essentially all of OTC's assets, and are guaranteed by OTC's parent company (OTC Holdings) and all subsidiaries. OTC's total assets are lower than the initial amount of secured debt.

Oriental Trading Company, a subsidiary of OTC Holdings, is a privately held company headquartered in Omaha, Nebraska. The company sells novelties and home decor items by catalog and Internet. Revenues were $482 million for the fiscal year ended March 2003.

New York
Charles O'Shea
Vice President - Senior Analyst
Corporate Finance Group
Moody's Investors Service
JOURNALISTS: 212-553-0376
SUBSCRIBERS: 212-553-1653

New York
Marie Menendez
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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