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Related Issuers
Rating Action:

Moody's places NSO's B3 rating on review for downgrade

30 Jul 2021

Frankfurt am Main, July 30, 2021 -- Moody's Investors Service, ("Moody's") has today placed on review for downgrade the B3 corporate family rating (CFR) and the B3-PD probability of default rating (PDR) of NorthPole Newco S.a r.l. (NSO), the top entity of the restricted group of Israeli-based cyber security and intelligence software provider NSO Group. Concurrently, Moody's has placed on review for downgrade the B3 instrument rating of the $300 million senior secured term loan B1 (TLB1) and €177 million senior secured term loan B2 (TLB2) facilities both maturing in March 2025 and the $30 million senior secured revolving credit facility (RCF) maturing in March 2024. The outlook on all ratings has changed to ratings under review from negative.

RATINGS RATIONALE/FACTORS THAT COULD LEAD TO AN UPGRADE OR DOWNGRADE OF THE RATINGS

The review for downgrade reflects the high uncertainty of NSO's performance in the second half of 2021 amidst recent allegations regarding reported misuse of its core product Pegasus and the related negative impact on the company's ability to sell new licences which is critical to restore operating performance and credit metrics more in line with the requirements for the current rating category. Furthermore the review reflects unchanged risks from the weak liquidity situation and a possible breach of the maintenance covenant under its current loan documentation. In case the company is not able to receive lenders consent to waive a covenant breach this might ultimately lead to a default. We expect only limited support from the private equity sponsor.

More general, NSO's B3 corporate family rating (CFR) reflects the group's medium term performance potential, evidenced in the solid performance in the past few years, characterised by EBITDA growth and consistently high margins. NSO's free cash flow generation was negative in 2020 driven by the lower revenues as well as a shareholder distribution but we expect FCF potential around €45 million in a usual business environment. The large addressable market in which the group operates, the limited known competition and the material barriers to entry also support NSO's credit quality.

NSO's credit profile is weakened by its high Moody's-adjusted leverage of around 5.4x in 2020 which has further weakened during the course of 2021, its product and customer concentration, and susceptibility to cyberattacks as well as ongoing lawsuits. In addition, the recurring revenue base is lower than that of its enterprise software peers and remains dependent upon the conversion to and renewal of maintenance contracts with a comparably low duration of 12 months, although we acknowledge its high renewal rates of over 90%.

RATING OUTLOOK

The rating review will focus on (1) the company's operating performance over the next quarter including the ability to sell new licences and maintain high margins, (2) its ability to generate free cash flow and secure liquidity, and (3) likelihood of shareholder support and potential changes in the ownership structure.

Previously, Moody's has stated that for a positive rating action NSO should demonstrate a prudent financial policy and absence of dividend recapitalisations in the next 18 months and (1) continue to reduce its customer concentration, (2) further increase the proportion and improve the quality of recurring revenue streams with EBITDA margin levels in the 40 percentages, (3) decrease Moody's adjusted gross debt to EBITDA sustainably below 4.0x, (4) maintain FCF to debt at least around 10% on a sustainable basis and (5) strengthen the headroom under maintenance covenant.

Conversely, Moody's has previously stated that NSO's ratings could come under negative pressure if Moody's adjusted gross debt to EBITDA moves above 5.5x in the next 12-18 months, low single-digit FCF/debt in the next 12-18 months and if business risk increased or if the group's liquidity position deteriorated.

LIQUIDITY ANALYSIS

We view NSO's liquidity as weak based on the risk of a covenant breach in 2021. As of June 2021, unrestricted cash was estimated around $29 million. The company has a fully drawn $30 million RCF and has received additional funds from the sponsor in form of a shareholder loan of $14 million which we expect to be converted into equity.

The group has one net leverage based covenant, with tight headroom as of June 2021. The sequential step downs to 4.00x by year-end 2021 will create further pressure. We therefore see a risk of a covenant breach that might lead to a default.

ENVIRONMENTAL, SOCIAL AND GOVERNANCE CONSIDERATIONS

The coronavirus outbreak, the government measures put in place to contain it, and the weak global economic outlook continue to disrupt economies and credit markets across sectors and regions. Our analysis has considered the effect on the performance of corporate assets from the current weak economic activity and a gradual recovery for the coming months. Although an economic recovery is underway, it is tenuous and its continuation will be closely tied to containment of the virus. As a result, the degree of uncertainty around our forecasts is unusually high. We regard the coronavirus outbreak as a social risk under our ESG framework, given the substantial implications for public health and safety.

In addition, NSO is facing allegations over the inappropriate use of its surveillance software which raises concerns over the company's control mechanisms and sales approach.

Finally, Governance considerations include the track record of the company being owned by a private equity company with a tolerance for high leverage.

STRUCTURAL CONSIDERATION

The senior secured term loan and RCF are the only financial debt instruments in the capital structure; hence, they are rated in line with the CFR. The temporary shareholder loan of $14 million that has been granted in Q2 2020 is treated as 100% debt and ranks pari passu with the TLB and RCF in the absence of the documentation.

PRINCIPAL METHODOLOGY

The principal methodology used in these ratings was Software Industry published in August 2018 and available at https://www.moodys.com/researchdocumentcontentpage.aspx?docid=PBC_1130740. Alternatively, please see the Rating Methodologies page on www.moodys.com for a copy of this methodology.

COMPANY PROFILE

NorthPole Newco S.a r.l. is a provider of cybersecurity and intelligence software solutions to government agencies. Its offering is focused on mobile end point and location capabilities, as well as tactical or field solutions and lawful interception for high-value targets. NSO operates primarily out of Israel, Bulgaria and Cyprus, with close to 750 employees who serve more than 60 customers in over 35 countries. In 2020, NSO reported revenue of $243 million and Moody's-adjusted EBITDA of €99 million. NSO is majority owned by funds ultimately controlled and managed by Novalpina Capital.

REGULATORY DISCLOSURES

For further specification of Moody's key rating assumptions and sensitivity analysis, see the sections Methodology Assumptions and Sensitivity to Assumptions in the disclosure form. Moody's Rating Symbols and Definitions can be found at: https://www.moodys.com/researchdocumentcontentpage.aspx?docid=PBC_79004.

For ratings issued on a program, series, category/class of debt or security this announcement provides certain regulatory disclosures in relation to each rating of a subsequently issued bond or note of the same series, category/class of debt, security 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.

The ratings have been disclosed to the rated entity or its designated agent(s) and issued with no amendment resulting from that disclosure.

These ratings are solicited. Please refer to Moody's Policy for Designating and Assigning Unsolicited Credit Ratings available on its website www.moodys.com.

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

Moody's general principles for assessing environmental, social and governance (ESG) risks in our credit analysis can be found at http://www.moodys.com/researchdocumentcontentpage.aspx?docid=PBC_1288435.

At least one ESG consideration was material to the credit rating action(s) announced and described above.

The Global Scale Credit Rating on this Credit Rating Announcement was issued by one of Moody's affiliates outside the UK and is endorsed by Moody's Investors Service Limited, One Canada Square, Canary Wharf, London E14 5FA under the law applicable to credit rating agencies in the UK. Further information on the UK endorsement status and on the Moody's office that issued the credit rating is available on www.moodys.com.

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.

Dirk Goedde
Asst Vice President - Analyst
Corporate Finance Group
Moody's Deutschland GmbH
An der Welle 5
Frankfurt am Main 60322
Germany
JOURNALISTS: 44 20 7772 5456
Client Service: 44 20 7772 5454

Christian Hendker, CFA
Associate Managing Director
Corporate Finance Group
JOURNALISTS: 44 20 7772 5456
Client Service: 44 20 7772 5454

Releasing Office:
Moody's Deutschland GmbH
An der Welle 5
Frankfurt am Main 60322
Germany
JOURNALISTS: 44 20 7772 5456
Client Service: 44 20 7772 5454

No Related Data.
© 2021 Moody’s Corporation, Moody’s Investors Service, Inc., Moody’s Analytics, Inc. and/or their licensors and affiliates (collectively, “MOODY’S”). All rights reserved.

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