NEW YORK--(BUSINESS WIRE)--Fitch Ratings has downgraded Eastman Kodak Company's (Kodak) ratings as follows:
--Issuer Default Rating (IDR) to 'CCC' from 'B-';
--Senior secured revolving credit facility (RCF) to 'B+/RR1' from 'BB-/RR1';
--Senior secured second priority debt to 'B+/RR1' from 'BB-/RR1';
--Senior unsecured debt to 'CCC/RR4' from 'B+/RR2'.
The Rating Outlook is Negative. Fitch's actions affect approximately $1.6 billion in total debt, including undrawn amounts under the RCF.
The rating downgrades and Negative Outlook reflect Kodak's continued struggles to gain traction in its digital businesses as secular declines persist and broaden to entertainment film within the traditional film business. Despite $838 million of non-recurring intellectual property licensing revenue and a stabilizing economic backdrop, Kodak's free cash flow deteriorated to negative $368 million in 2010 compared with negative $288 million in 2009 primarily driven by a nearly 12% decline in total revenue, the third consecutive year of double-digit revenue declines, excluding intellectual property (IP) income. Furthermore, the company experienced continued weakness in operating profit margins across all business segments in the fourth quarter of 2010 due to numerous factors, the majority of which Fitch believes will result in prolonged profitability challenges. Specifically, Kodak's operating margin declined 3.7 percentage point year-over-year to negative -1.6% in the fourth quarter due to pricing pressures in digital still cameras and consumer inkjet printers, a material increase in commodity costs, primarily silver, used in the manufacture of traditional film, and an oversupply of digital plates in the commercial print market. Lastly, Fitch believes adverse preliminary rulings with respect to Kodak's patent infringement claims against Apple and RIM in January 2011 add additional uncertainty regarding the availability of IP licensing revenue required to finance the company's growth initiatives.
Although a near-term default appears unlikely given Kodak's significant cash position, Fitch believes the company's credit profile has deteriorated due to ongoing pressures on revenue, operating margin and free cash flow, which make it increasingly challenging for the company to achieve its transition to a digitally-focused, profitable enterprise within the context of its existing capital structure. Furthermore, in the absence of an unexpected improvement in financial performance, particularly free cash flow, Fitch believes Kodak's liquidity pressures could accelerate if the company is unsuccessful in renewing its $410 million secured RCF expiring in 2012 and/or refinancing $350 million of debt maturing in 2013.
Kodak's ratings reflect:
--Expectations that growth and margin expansion in Kodak's digital businesses necessary to offset rapid secular decline in the high margin traditional film businesses will remain challenging even with stabilizing consumer and business spending;
--Significant competition and pricing pressure facing the company, particularly the Consumer Digital Imaging Group (CDG), from rivals with established market positions and greater financial resources than Kodak, compounded by moderating demand for digital still cameras;
--Persistent declines in the company's traditional film, photofinishing, and entertainment group (FPEG) as digital substitution continues at a faster pace in movie theaters and other areas, with accelerating margin deterioration attributable to decreased demand, negative revenue mix, and higher raw material costs including silver;
--Kodak's continued reliance and uncertainty of non-recurring IP licensing revenue which has provided a significant portion of digital revenues and cash flow in recent years;
--Significant liquidity reserves, with $1.6 billion in cash and approximately $200 million of RCF availability;
--Fitch's expectations that the company will not generate positive free cash flow in the foreseeable future due primarily to lower revenue and operating profit, compounded by cash restructuring payments and increased contributions to its defined benefit pension plans;
--Kodak's credit metrics improved with leverage (total debt/operating EBITDA) of 1.6 times (x) at Dec. 31, 2010, compared with 2.1x at year-end 2009, while interest coverage (operating EBITDA/ gross interest expense) increased from 3.0x in 2009 to 3.3x in 2010 benefiting from significant growth in non-recurring IP licensing revenue,. However, excluding IP revenue, year-over-year comparison of credit metrics were markedly unfavorable due to EBITDA of negative $87 million in 2010 compared with $134 million in 2009.
Negative rating actions could occur if:
--Free cash flow over the next several quarters continues to decline, resulting in a substantial reduction in liquidity.
As of Dec. 31, 2010, liquidity consisted of approximately $1.6 billion of cash and cash equivalents and an undrawn $410 million asset-based senior secured RCF, assuming sufficient collateral in terms of eligible receivables, inventory, real property and equipment. At Sept. 30, 2010, availability under the facility was $224 million net of $131 million of outstanding letters of credit. Financial covenants under the amended facility include a minimum of $250 million of U.S.-based cash, as well as a minimum fixed charge coverage ratio of 1.1x in the event that excess availability is below $100 million. The facility matures in March 2012.
The Recovery Ratings (RR) reflect Fitch's belief that Kodak's enterprise value would be maximized in liquidation, rather than a going-concern scenario. In estimating liquidation, Fitch applies advance rates of 80%, 20%, and 10% to Kodak's accounts receivables, inventories, and property, plant, and equipment balances, respectively. Additionally, Fitch estimates the value of Kodak's IP at $250 million based on $100 million in revenue in perpetuity at a 40% discount rate. As is standard with Fitch's recovery analysis, the revolving credit facility is assumed to be fully drawn (up to its borrowing base) and cash balances fully depleted to reflect a stress event. Fitch arrives at an adjusted reorganization value of $1.4 billion after subtracting administrative claims. Based upon these assumptions, the 'RR1' for Kodak's secured bank facility and senior secured second-lien debt reflects Fitch's belief that 100% recovery is realistic. As a result of Kodak's guarantee of $920 million of aggregate payments to its United Kingdom defined benefit pension fund through 2022, Fitch includes this liability in the total senior unsecured claims. Therefore, Fitch estimates that the senior unsecured claims would recover approximately 35% in the event of default, supporting the 'RR4' (31%-50% recovery) for the senior unsecured debt.
Total debt was approximately $1.4 billion as of Dec. 31, 2010, consisting of:
--$300 million of senior notes due 2013;
--$400 million of senior unsecured convertible notes due 2017;
--$500 million of senior secured second-lien notes due 2018;
--Approximately $150 million of various term notes with maturities from 2010-2013.
Additional information is available at 'www.fitchratings.com'.
Applicable Criteria and Related Research:
--'Corporate Rating Methodology', dated Aug. 16, 2010;
--'Revisions to Rating Definitions', dated March 2009;
--'Evaluating Corporate Governance', dated Dec. 12, 2007;
--'Liquidity Considerations for Corporate Issuers', dated June 12, 2007;
--'Recovery Ratings and Notching Criteria for Nonfinancial Corporate Issuers', dated Nov. 24, 2009.
Applicable Criteria and Related Research:
Recovery Ratings and Notching Criteria for Nonfinancial Corporate Issuers
http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=489006
Liquidity Considerations for Corporate Issuers
http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=328666
Evaluating Corporate Governance
http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=581405
Fitch Revisions to Rating Definitions: Sovereign Implications
http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=432326
Corporate Rating Methodology
http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=546646
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