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Rating Action:

Moody's downgrades USG's CFR to Ba2; outlook negative

10 Dec 2018

New York, December 10, 2018 -- Moody's Investors Service ("Moody's") downgraded USG Corporation's Corporate Family Rating to Ba2 from Ba1 and its Probability of Default Rating to Ba2-PD from Ba1-PD due to lower than expected operating performance. USG is experiencing higher unit costs and higher transportation costs, offsetting higher volumes, better pricing, and efficiency gains. Moody's anticipates these costs will result in ongoing margin pressures over the next 12 to 18 months. Additionally, higher level of balance sheet debt expected as the result of Gebr. Knauf KG's ("Knauf") acquisition of USG result in key debt credit metrics indicative of lower ratings and warranting the downgrade. In related rating actions, Moody's downgraded USG's senior unsecured notes to Ba2 from Ba1, and its industrial revenue bonds to B1 from Ba2. Speculative Grade Liquidity Rating of SGL-1 is affirmed. Rating outlook is negative. This concludes the review initiated on June 12, 2018.

Knauf, a family-owned global manufacturer of buildings products and materials located in Iphofen, Germany, announced in mid-June that it is acquiring all outstanding shares USG in a transaction valued at approximately $7.0 billion, representing a multiple of approximately 11.6x USG's adjusted EBITDA for the 12 months ended March 31, 2018. USG shareholders already received $44.00 per share, which consists of $43.50 per share in cash payable upon closing of the transaction, scheduled for late-1Q19, and a $0.50 per share special dividend.

The following ratings/assessments were affected by this action:

Downgrades:

..Issuer: East Chicago (City of) IN

....Senior Unsecured Revenue Bonds, Downgraded to B1 (LGD6) from Ba2 (LGD6)

..Issuer: OHIO (STATE OF)

....Senior Unsecured Revenue Bonds, Downgraded to B1 (LGD6) from Ba2 (LGD6)

..Issuer: Ohio Air Quality Development Authority

....Senior Unsecured Revenue Bonds, Downgraded to B1 (LGD6) from Ba2 (LGD6)

..Issuer: OREGON (STATE OF)

....Senior Unsecured Revenue Bonds, Downgraded to B1 (LGD6) from Ba2 (LGD6)

..Issuer: Pennsylvania Economic Dev. Fin. Auth.

....Senior Unsecured Revenue Bonds, Downgraded to B1 (LGD6) from Ba2 (LGD6)

..Issuer: USG Corporation

.... Probability of Default Rating, Downgraded to Ba2-PD from Ba1-PD

.... Corporate Family Rating, Downgraded to Ba2 from Ba1

....Senior Unsecured Regular Bond/Debenture, Downgraded to Ba2 (LGD4) from Ba1 (LGD4)

Outlook Actions:

..Issuer: USG Corporation

....Outlook, Changed To Negative From Rating Under Review

Affirmations:

..Issuer: USG Corporation

.... Speculative Grade Liquidity Rating, Affirmed SGL-1

RATINGS RATIONALE

The downgrade of USG's Corporate Family Rating to Ba2 form Ba1 results from worsening debt credit metrics due to operating performance below our previous expectations. USG is experiencing higher costs per unit and higher transportation costs, offsetting higher volumes, better pricing , and efficiency gains. Higher costs for raw material such as resins, gypsum, and oil-based commodity costs are negatively impacting performance as well. Over the next 12 to 18 months, we now project USG's EBITA margins near 10% versus our previous forecasts in late-November 2017 of about 15%. Our revised margin forecast includes some price increases and better volumes, providing some offset to higher input, personnel and transportation costs.

Additionally, higher level of balance sheet debt expected as the result of Gebr. Knauf KG's ("Knauf") acquisition of USG is pressuring key debt credit metrics too. Knauf indicated that it has secured on behalf of USG an $800 million term loan and $858.5 million backstop facility for USG, which could be utilized and further increase USG's debt burden. Excluding borrowings under the backstop facility, USG's balance sheet is growing by about 73% to $1.9 billion from $1.1 billion at September 30, 2018, an amount USG has not experienced since FYE15. As a result of more balance sheet debt and lower level of operating earnings, we now forecast debt leverage slightly below 4.0x by year-end 2019 from our previous forecast of 2.0x, and free cash flow-to-debt of around 7% over the same time period. Pro forma total adjusted balance sheet debt is about $2.2 billion at 2Q18. Consistent with Moody's standard adjustments, we add an additional $193 million to balance sheet debt for pension liabilities, which should be lower in 2018 since USG will contribute throughout the year about $71 million to its pension plans, about $115 million for operating lease commitments, and $11 million for unamortized debt issuance costs.

However, we still expect USG will profit from sound fundamentals in domestic repair and remodeling activity and new residential construction, drivers of gypsum revenues and resulting earnings and cash flow generation. Our performance expectations for repair and remodeling end market considers trends in the National Association of Home Builders (NAHB) Remodeling Market Index, an industry survey that gauges remodeling contractors' expectations of demand over the next three months. The Remodeling Market Index's overall reading was 58.3 in 3Q18, above 50 since 1Q13 and indicating sustained growth. An index reading above 50 indicates majority of contractors surveyed believe market conditions are expanding. Over next 12 to 18 months, we anticipate the overall reading remaining in expansion. Moody's projects total new housing starts could reach 1.31 million in 2019, representing a 2.9% increase from an expected 1.27 million in 2018. We maintain a stable outlook for the US homebuilding industry.

SGL-1 Speculative Grade Liquidity Rating reflects our view that the company will maintain a very good liquidity profile over the next 12 months, generating substantial free cash flow throughout the year. $428 million of cash on hand and marketable securities and $198 million in revolver availability at September 30, 2018 are contributors as well to company's very good liquidity profile.

The negative rating outlook reflects ongoing uncertainty as to USG's final debt capital structure following Knauf's acquisition of USG and resulting debt credit metrics. Knauf may add more debt to USG's balance sheet beyond $800 million term loan already mentioned. Moody's does not anticipate Knauf guaranteeing USG's debt.

Downgrades of USG's guaranteed senior unsecured notes to Ba2 from Ba1 and its industrial revenue bonds to B1 from Ba2 result from lower corporate family rating, main driver in our loss given default methodology, and increasingly greater expected loss as the ratings move down the scale. We have excluded at this time the proposed $800 million term loan and $858.5 million backstop facility in our loss given default analysis, since we do not have detailed terms and conditions for each credit facility.

Further negative rating action could occur if Knauf adds more debt on USG's balance sheet to support its acquisition. In addition, a downgrade could occur if USG's operating performance falls below our expectations, resulting in the following metrics (ratios include Moody's standard adjustments) or characteristics:

» Debt-to-EBITDA sustained near 4.5x

» EBITA margins remaining below 10%

» Deterioration in liquidity profile

Ratings assigned to notes and industrial revenue bonds could be lowered further as well if USG's final debt capital structure includes debt that is more senior to these credit facilities in recovery scenarios. All ratings could be withdrawn if Moody's does not receive detailed quarterly and audited financial statements, inhibiting our ability to monitor USG's credit worthiness.

Stabilization of ratings over intermediate term is unlikely, since USG must operate under new ownership, and exhibit operating performance that exceeds Moody's forecast, yielding following credit metrics ratings (all ratios include Moody's standard adjustments) and characteristics:

» Debt-to-EBITDA remaining near 4.0x

» EBITA margins above 12%

» Ongoing positive trends in end markets

The principal methodology used in these ratings was Global Manufacturing Companies published in June 2017. Please see the Rating Methodologies page on www.moodys.com for a copy of this methodology.

USG Corporation, headquartered in Chicago, IL, is a North American manufacturer of wallboard, substrates and surfaces, and ceiling tiles and grids. Revenues for 12 months through September 30, 2018 approximate $3.4 billion.

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.

Peter Doyle
Vice President - 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

Glenn B. Eckert
Associate Managing Director
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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