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Rating Action:

MOODY'S UPGRADES DICTAPHONE'S SENIOR SUBORDINATED NOTES TO B3

19 Jul 2000
MOODY'S UPGRADES DICTAPHONE'S SENIOR SUBORDINATED NOTES TO B3

Approximately $200 Million of Debt Securities Affected.

New York, July 19, 2000 -- Moody's Investors Service raised to B3 from Caa1 the rating on Dictaphone Corporation's $200 million 11-3/4% guaranteed senior subordinated notes, due 2005, recognizing the inherent support derived by the company from Lernout & Hauspie Speech Products NV, which acquired Dictaphone on May 5, 2000 in exchange for 4.75 million shares of its stock and an assumption of Dictaphone's debt obligations. The change of control put at 101 on the 11-3/4% senior subordinated notes, having previously been extended, is scheduled to expire today. Moody's additionally withdrew the B2 rating on Dictaphone's guaranteed senior secured bank credit facility, which was refinanced at the time of the merger. Dictaphone's senior implied rating was raised to B1 from B2 and the company's senior unsecured issuer rating was raised to B1 from B3. This completes the review commenced on March 8, 2000 upon the announcement of the proposed merger. The ratings outlook is stable.

The ratings upgrade is based on the encouraging prospects for Lernout & Hauspie's core technologies, which have contributed to a leading position in voice recognition software. This personal computing interface has potentially wide applications from automatic speech recognition to text-to-speech, digital speech compression, text-to-text translation and linguistics. Lernout & Hauspie has organized its business along three separate platforms, technologies and solutions which accounted for 40% of 1999 revenues, applications (33%), and consulting and services (27%). However, while Lernout & Hauspie's Voice Xpress Professional software is much acclaimed, its accuracy in picking up voice commands requires continued refinement. The company has grown rapidly from $7.7 million in sales in 1995 to $344 million in 1999, and, adjusting for write-offs of in-process research and development expense, has recorded positive operating income in each of the past four years and over FY2000Q1. Shareholders' equity was $561 million as of March 31, 2000, but included in the company's assets are $417 million of intangibles that have accrued largely from the company's numerous acquisitions. The Dictaphone acquisition, as well as Lernout & Hauspie's acquisition of Dragon Systems which closed on June 7, 2000, will result in substantial increments of balance sheet goodwill.

Lernout & Hauspie has effected the Dictaphone acquisition by merging Dictaphone into one of its wholly-owned subsidiaries, and by having arranged a $430 million bank credit facility with a consortium of European banks led by Dresdner Bank Luxembourg S.A. to assume or refinance Dictaphone's debt and other obligations. A five-year $230 million declining balance facility, bearing interest at LIBOR plus 175 basis points, was drawn upon to repay Dictaphone's outstanding borrowings under its senior credit facility, as well as certain other obligations. However, Lernout & Hauspie, as the parent company to the subsidiary, has accounted for the transaction through an intercompany loan which will legally remain as a liability on the subsidiary's balance sheet, and command a superior lien position to Dictaphone's senior subordinated notes. Furthermore, while Dictaphone's stockholders' deficit has been eliminated, the subsidiary will have $284 million of intangibles on its pro forma March 31, 2000 balance sheet, which, if deducted, would result in a negative consolidated tangible net worth of $133 million at the subsidiary level. Dictaphone's legal status as part of the subsidiary would not interfere with Lernout & Hauspie's plans to integrate Dictaphone's operations into certain of its operating business lines. The remaining $200 million available under Lernout & Hauspie's credit facility, in the form of a short-term debt facility, due 2001, bearing interest at LIBOR plus 100 basis points, would be drawn to repay any Dictaphone senior subordinated notes that are put to the company under the change of control provision. The significantly lower borrowing cost on the short-term debt facility could lead Lernout & Hauspie to exercise its optional redemption on any senior subordinated notes that are not put as early as August 1, 2000 at 105.875, when the first optional redemption date would occur.

Lernout & Hauspie, headquartered in the Flanders region of Belgium, is a world leader in automatic speech recognition, text-to-speech, digital speech compression, text-to-text language translation and linguistics components technologies customized for corporate solutions.

New York
Robert N. McCreary
Senior Vice President
Corporate Finance Group
Moody's Investors Service

New York
Howard Sitzer
Vice President - Senior Analyst
Corporate Finance Group
Moody's Investors Service

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