GNC's Miss on Debt Deal Leads Fitch to See Restructuring
(Bloomberg) -- GNC Holdings Inc.’s financing problem has gone from business still pending to urgent.
The clock is ticking for the health-product retailer after it tried in vain three times to refinance its debt. Not only does GNC have debt that begins to fall due in less than nine months, it could face questions as soon as March over its ability to continue as a going concern if it fails to strike a deal with lenders.
That might leave the company, which has hired Goldman Sachs Group Inc. to review its future, with little choice but to restructure its debt, perhaps through a swap, according to Fitch Ratings. Other ways to address its $1.4 billion of borrowings include selling assets, boosting franchise agreements or an outright sale of the firm. But these alternatives may have limited appeal amid the increasing competition from online sellers and bigger retailers that’s already cratered its earnings.
GNC’s predicament is a symptom of the general malaise afflicting retailers, and some of its own business decisions that lumbered it with a complex pricing structure, a loyalty program that created confusion and mistargeted marketing efforts, according to Fitch. It also walked away in May from a first refinancing effort after failing to get lenders on board, which in comparison to the elevated yields proposed in its recent proposal, may feel like a painful missed opportunity.
"A lot of the troubles that GNC has are secular pressures that have no end date,” said Seema Shah, a senior analyst at Bloomberg Intelligence. “It’s hard to think of a strategic partner or even a financial buyer that make sense, especially with the debt on the balance sheet that’s coming due relatively quickly.”
A representative for Pittsburgh-based GNC declined to comment. The company last week reiterated its full-year free cash flow target of $190 million to $210 million and said it still plans to repay the remainder of its revolver credit line in the fourth quarter.
Come March, the term loan that GNC has tried to refinance has to be accounted as current debt from its designation as long-term debt. The switch could prompt GNC’s accountants to possibly issue an opinion about the company’s ability to continue as a going concern, said S&P Global Ratings analyst Mathew Christy.
Going-concern warnings can trigger suppliers to pull back, possibly putting the company on the path toward a default. But GNC has other levers such as eventually pulling off a refinancing or a credit agreement amendment to avoid such an outcome, Christy added.
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GNC tried for a third time last month to refinance a $1.1 billion loan maturing in March 2019 and a $300 million revolver due in September 2018, of which $48 million is drawn. The company also has a $287 million convertible bond maturing in 2020. It offered yields of as much as 11.5 percent on a $900 million loan-portion of the deal, the year’s second-highest first-lien spread in the syndicated loan market.
The company couldn’t find willing investors even in the wide-open loan market, where U.S. leveraged-loan issuance has risen 48 percent this year compared with 2016. It pulled the proposal Dec. 4 simultaneously saying it reappointed Goldman Sachs to advise on strategic options after having retained the bank in May 2016 for the same purpose. A representative for Goldman Sachs declined to comment.
Even if those options amounted to a sale or merger of the company, that would be challenging since the company’s debt burden limits the “pool of would-be buyers,” according to analysis by Bloomberg Intelligence.
Most potential buyers including private equity firms may struggle to make a deal work. While GNC’s debt load has remained fairly steady since the current loan was inked in 2013, the retailer’s earnings before income tax, depreciation and amortization have spiraled lower from declining sales and higher expenses.
This erosion has pushed leverage up to an eye-popping 5.5 times Ebitda, according to Moody’s Investors Service, and poses a significant challenge to any refinancing or takeover hopes.
High debt levels put GNC, whose stock price has tumbled more than 80 percent in the past year, up against the wall. The company’s “inability to successfully complete its proposed refinancing suggests the possibility the company may need to effect a distressed debt exchange or restructuring,” Fitch Ratings analysts including David Silverman wrote on Dec. 5 when they cut GNC’s credit grade to B-, six notches below investment grade.
S&P is also assessing the potential for a distressed exchange, it said in a report the same day. S&P downgraded it to CCC+, seven levels below investment grade and one notch lower than Fitch’s.
To be sure, the company has been the subject of speculation earlier this year that it may become a potential buyout target by Chinese firms teaming up with a private equity fund. And GNC, which started as single store in downtown Pittsburgh in 1935, could try to sell assets to partly pay off debt.
But that would result in some loss of earnings generated by these assets, said Silverman. GNC, which has some 9,000 stores globally, could also “develop franchisees internationally where it is not present and that could be Ebitda positive,” he said.
For now GNC says it has a strong cash position and access to a credit line. It has made efforts to divert free cash flow to pay down debt and already turned off the spigot on dividend payments and share buybacks.
“Our base case is that they could get refinancing but the environment is highly uncertain now,” said Christy. “The capital structure is unsustainable, but we don’t see a default within 12 months” as indicated by the CCC+ rating, he said.
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