OREANDA-NEWS. Fitch Ratings has assigned Cerberus Nightingale 1 S.A.'s (Cerberus) proposed issue of EUR145m senior notes expected ratings of 'B-(EXP)'/'RR6'. Cerberus is a holding company of Cerba European Lab SAS (Cerba).

At the same time, Fitch has affirmed Cerba's Issuer Default Rating (IDR) at 'B+' with a Negative Outlook. The 'BB-'/'RR3' rating on Cerba's EUR530m senior secured notes, including the planned EUR85m tap issue under this instrument, is also affirmed.

The proceeds of the planned issues, together with cash on hand, will be used to fund the acquisition of Novescia SAS. Fitch recently revised its Outlook on Cerba's IDR to Negative from Stable on the basis that the latest acquisition would weaken Cerba's credit metrics and entail higher integration risk relative to previous bolt-on acquisitions (see "Fitch Revises Cerba's Outlook to Negative on Novescia Buy", dated 21 January 2015).

Pending completion of the acquisition, the proceeds of the issues will be deposited in separate escrow accounts. While in escrow, the notes will not be guaranteed and will be secured by a first-ranking charge over the relevant escrow account. If the acquisition is not completed prior to 27 May 2015, the notes will be subject to a special mandatory redemption at par plus any accrued and unpaid interest. The assignment of the final ratings is contingent on the completion of the Novescia acquisition and the receipt of final documents materially conforming to information already reviewed.

KEY RATING DRIVERS FOR THE BONDS

Pari Passu Ranking Post Completion
Upon completion of the acquisition, the EUR85m tap issue will share the same key terms and conditions as the existing EUR445m 7% senior secured notes due 2020. They will be senior secured obligations of Cerba European Lab SAS and share the same ranking, coupon and maturity. They will also benefit from the same incurrence-based covenants, security package and guarantees.

Weak Recovery for Senior Noteholders
Cerberus's notes are rated two notches below Cerba's IDR to reflect their subordination to the existing senior secured obligations. The 'RR6' reflects poor recovery prospects (0-10%) of the new notes in a default scenario. As the new notes are junior-ranking, we continue to expect above-average recovery prospects within the 'RR3' range (51-70%) for Cerba's senior secured noteholders.

Although the senior notes will be issued by Cerberus, an entity currently sitting outside the senior secured notes restricted group, they will benefit from the same guarantees provided by Cerba and certain operating subsidiaries as the senior secured notes but on a subordinated basis and will also benefit from a second-ranking share pledge over Cerberus Nightingale 2 S.A., an intermediate holding company of Cerba. The notes will mature at the same time as the existing senior secured notes and have the same call protection.

KEY RATING DRIVERS

Reduced IDR Headroom
While the acquisition of Novescia would increase Cerba's scale and strengthen its position on the French laboratory testing market, we expect FFO adjusted gross leverage to remain above 6.5x for 2015-2016 (adjusted for 12 month-contribution of acquisitions). In our view, Cerba's weaker credit metrics over the near term reduce rating headroom at 'B+', relative to immediate peers within the healthcare sector, including Labco SA (B+/Stable). In addition, we expect free cash-flow (FCF) generation to remain constrained in the low mid-single digits (as a percentage of revenue), as a result of higher cash interest, resulting from its debt-funded acquisition growth strategy.

Successful Integration Critical for Deleveraging
In an environment of persistent pressure on reimbursement tariffs from public entities, we believe that Cerba is reliant on successfully integrating its acquisitions and extracting the planned synergies (both at Novescia and at smaller bolt-on acquisitions) to support mild deleveraging prospects over the medium term. We consider the operational execution risk of the Novescia acquisition to be potentially higher than smaller bolt-on acquisitions for which the company has a good track record.

Continued Expansion in Routine Labs
The ratings reflect Cerba's ability to take advantage of the fragmentation of the French routine market. Cerba's acquisitive strategy enables it to broaden its network around regional platforms while realising synergies and increasing scale. We expect Cerba to continue with this strategy over the medium term and forecast the company will spend up to EUR50m p.a. on small bolt-on acquisitions over the next three years. A larger acquisition such as that of Novescia would be considered as event risk.

Leading Clinical Laboratories Player
Cerba is one of the largest medical diagnostics groups in Europe. Its resilient like-for-like performance, which Fitch expects to continue, is underpinned by growing volumes and fairly stable profit margins. The group benefits from a sound reputation for scientific expertise and innovation at the specialised end of the market (23% of revenue for the last 12 months to September 2014, adjusted for the Novescia acquisition).

Business and Geographical Diversification
The group's activities in its Central Lab division globally (8% of sales) and its presence in the Belgian and Luxembourg routine markets (12% of sales) provide some diversification and reduce exposure to the French healthcare system. We consider that upon expiry of the three-year agreement reached in October 2013 between the French clinical pathology laboratories unions and the authorities (with the objective to achieve annual market growth of 0.25%), Cerba would be at risk of further tariff pressure.

RATING SENSITIVITIES

Future developments that could lead to a negative rating action include:
- Inability to integrate Novescia and extract the planned synergies such that FFO adjusted gross leverage remains above 6.5x and FFO interest coverage remains around 2.0x by 2017 (pro forma for acquisitions)
- Further aggressively funded acquisition policy

Future developments that could lead to the Outlook being revised to Stable include:
- Ability to integrate Novescia and smaller bolt-on acquisitions swiftly such that FFO adjusted gross leverage falls below 6.5x and FFO interest coverage increases towards 2.5x by 2017 (pro forma for acquisitions)
- EBITDA margin above 23% and FCF in the mid to high single digit on a sustained basis

LIQUIDITY AND DEBT STRUCTURE

Cerba is expected to have satisfactory cash on balance sheet after the completion of the acquisition, supported by an increased RCF commitment to EUR80m to support liquidity and bolt-on acquisition needs.

The maturity profile is long-dated, with the combined EUR675m senior secured and senior notes falling due in February 2020.