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Rating Action:

Moody's assigns first-time ratings to Cabot Microelectronics

18 Oct 2018

New York, October 18, 2018 -- Moody's Investors Service ("Moody's") has assigned a first-time Ba2 Corporate Family Rating ("CFR") ratings to Cabot Microelectronics Corporation ("Cabot Microelectronics"). Concurrently, Moody's has assigned Ba2 ratings to the company's proposed $1,065 million first lien term loan and $200 million revolving credit facility, which is expected to be undrawn at closing. Proceeds from the term loan, along with 0.20 shares of Cabot Microelectronics common stock per KMG common share, and approximately $182 million cash on the balance sheet, will be applied towards the $1.6 billion acquisition of KMG Chemicals, Inc. (B1 stable) announced August 2018. Moody's also assigned a Speculative Grade Liquidity Rating ("SGL") of SGL-2 indicating good liquidity to support operations in the near-term. The rating outlook is stable.

"The rating reflects the increased scale and solid industry positions in key end-markets of the semiconductor industry offset by the challenges of integrating a transformational acquisition and modestly elevated leverage for the rating," said Domenick R. Fumai, Moody's Vice President and lead analyst.

The ratings are subject to the transaction closing as proposed and receipt and review of the final documentation.

Assignments:

..Issuer: Cabot Microelectronics Corporation

.... Probability of Default Rating, Assigned Ba2-PD

.... Speculative Grade Liquidity Rating, Assigned SGL-2

.... Corporate Family Rating, Assigned Ba2

....Senior Secured Bank Credit Facility (Local Currency), Assigned Ba2 (LGD4)

Outlook Actions:

..Issuer: Cabot Microelectronics Corporation

....Outlook, Assigned Stable

RATINGS RATIONALE

In August 2018, Cabot Microelectronics announced the acquisition of KMG Chemicals for a total consideration of approximately $1.6 billion representing a 10.9x adjusted EBITDA multiple, as defined by management, including the impact of $25 million in synergies. The new Cabot Microelectronics will be formed by combining the existing polishing slurries and polishing pads business, with KMG's legacy business segments, Electronic Chemicals and Performance Materials. Moody's estimates that slurries, pads, and HPPC will account for roughly 85% of sales and nearly 80% of EBITDA. KMG also adds two unrelated businesses - drag reducing agents (DRAs) and wood-treatment chemicals.

The rating is supported by our expectation that management will target leverage approximately 2.0x, the expectation for meaningful free cash flow generation and debt repayment over the next two years. Moreover, the expectation for increased consumption of Cabot's Electronic Chemicals (primarily slurries, pads and HPPC) in the production of more complex semiconductors, along with the above GDP growth in semiconductor demand over the next several years, will ensure that leverage quickly declines to more reasonable levels. In addition, Cabot's increased scale and enhanced portfolio of electronic chemicals is a positive contributing factor.

The Ba2 CFR is principally constrained by integration risk, significant exposure to the semiconductor industry and meaningful customer concentration. Integration risk is the most significant issue for the combined company as KMG nearly doubles the company's size and introduces Cabot into two unrelated businesses. Fortunately, projected synergies are reasonable and largely limited to corporate functions, which should limit any negative impact on the manufacturing or sales staff.

Moody's estimates interest coverage around 6.2x (EBITDA/Interest Expense) and financial leverage around 3.6x on a pro forma basis for the four most recent quarters. Management expects to achieve meaningful deleveraging over the next few years as Cabot Microelectronics has historically operated with a fairly conservative debt profile. Moody's expects that the combined Cabot and KMG will generate roughly $300 million of adjusted EBITDA, clearly in excess of anticipated cash interest of approximately $50 million and capital expenditures of roughly $60 million. Moody's forecasts weaker free cash flow generation in 2019 due to one-time costs associated with the integration of the two entities as well as transaction expenses, but expects free cash flow ("FCF)" to improve to approximately $120 million in 2020.

The stable outlook assumes that the company is able to successfully integrate the KMG acquisition and reduce leverage through a combination of EBITDA growth and debt repayment over the next two years, and that future bolt-on acquisitions will only temporarily delay the deleveraging process. The stable outlook doesn't incorporate any meaningful change in dividends or share repurchases..

Moody's could upgrade the rating with expectations for adjusted financial leverage sustained below 2.5x and retained cash flow-to-debt (RCF/Debt) sustained above 25%. Furthermore, increasing the company's scale to over $1.5 billion in revenues and expanding product diversity would also be important factors in considering an upgrade. Moody's could downgrade the rating with expectations for adjusted financial leverage above 4.0x on a sustained basis, retained cash flow-to-debt below 10%, the lack of consistent free cash flow generation post 2019, substantial deterioration in liquidity or unsatisfactory progress integrating the acquisition.

The Ba2 rating on the first lien term loan and the revolving credit facility, in line with the Ba2 CFR, reflect the preponderance of debt in the capital structure and the covenant-lite nature. The first lien secured term loan contains no financial covenants while the revolving credit facility has a springing maximum first lien secured next leverage ratio tested on any amounts outstanding at quarter-end. The revolving credit facility and first lien secured term loan are backed by all existing and future wholly-owned material domestic subsidiaries of Cabot Microelectronics representing approximately 68% of EBITDA and 65% of assets.

The Speculative Grade Liquidity ("SGL") SGL-2 rating reflects good liquidity to support operations in the near-term, including approximately $200-$210 million of cash at the closing of the transaction and a 5-year $200 million revolving credit facility maturing 2023 that is expected to be undrawn at closing.

Cabot Microelectronics Corporation ("Cabot Microelectronics") headquartered in Aurora, Illinois will be a leading supplier of electronic chemicals and performance materials. Following the acquisition of KMG Chemicals, Inc., Cabot Microelectronics will combine its existing slurries and pad business, with KMG's legacy HPPC business (high purity process chemicals) and two unrelated businesses -- drag reducing agents (DRAs) and wood-treatment chemicals. Cabot Microelectronics will have pro forma sales of approximately $1.0 billion and adjusted EBITDA of $300 million upon completion of the transaction.

The principal methodology used in these ratings was Chemical Industry published in January 2018. Please see the Rating Methodologies page on www.moodys.com for a copy of this methodology.

REGULATORY DISCLOSURES

For ratings issued on a program, series or category/class of debt, this announcement provides certain regulatory disclosures in relation to each rating of a subsequently issued bond or note of the same series or category/class of debt or pursuant to a program for which the ratings are derived exclusively from existing ratings in accordance with Moody's rating practices. For ratings issued on a support provider, this announcement provides certain regulatory disclosures in relation to the credit rating action on the support provider and in relation to each particular credit rating action for securities that derive their credit ratings from the support provider's credit rating. For provisional ratings, this announcement provides certain regulatory disclosures in relation to the provisional rating assigned, and in relation to a definitive rating that may be assigned subsequent to the final issuance of the debt, in each case where the transaction structure and terms have not changed prior to the assignment of the definitive rating in a manner that would have affected the rating. For further information please see the ratings tab on the issuer/entity page for the respective issuer on www.moodys.com.

For any affected securities or rated entities receiving direct credit support from the primary entity(ies) of this credit rating action, and whose ratings may change as a result of this credit rating action, the associated regulatory disclosures will be those of the guarantor entity. Exceptions to this approach exist for the following disclosures, if applicable to jurisdiction: Ancillary Services, Disclosure to rated entity, Disclosure from rated entity.

Regulatory disclosures contained in this press release apply to the credit rating and, if applicable, the related rating outlook or rating review.

Please see www.moodys.com for any updates on changes to the lead rating analyst and to the Moody's legal entity that has issued the rating.

Please see the ratings tab on the issuer/entity page on www.moodys.com for additional regulatory disclosures for each credit rating.

Domenick Fumai
VP - Senior Analyst
Corporate Finance Group
Moody's Investors Service, Inc.
250 Greenwich Street
New York, NY 10007
U.S.A.
JOURNALISTS: 1 212 553 0376
Client Service: 1 212 553 1653

Brian Oak
MD - Corporate Finance
Corporate Finance Group
JOURNALISTS: 1 212 553 0376
Client Service: 1 212 553 1653

Releasing Office:
Moody's Investors Service, Inc.
250 Greenwich Street
New York, NY 10007
U.S.A.
JOURNALISTS: 1 212 553 0376
Client Service: 1 212 553 1653

No Related Data.
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