OREANDA-NEWS. Fitch Ratings has lowered its rating on Harsco Corporation's (Harsco) long-term Issuer Default Rating (IDR) to 'BB' from 'BB+', the secured revolver and term loan to 'BB+/RR1' from 'BBB-/RR1', and the senior unsecured notes to 'BB/RR4' from 'BB+/RR4'.

At the same time, Fitch has removed the ratings from Negative Watch, where they were placed in November 2015. Harsco had $911 million of debt outstanding as of Dec. 31, 2015. The Rating Outlook is Negative. A full list of rating actions follows at the end of this release.

KEY RATING DRIVERS
The downgrade reflects weak results in Harsco's metals and mining (M&M) and industrial businesses, and the resulting pressure on the company's credit metrics. Fitch expects further deterioration in 2016, though the suspension of the dividend will support liquidity going forward. The 'BB' IDR reflects Harsco's credit profile given its current business mix and is the highest likely rating outcome should the company separate its M&M business, as it intends to do.

The removal from Rating Watch Negative reflects the expectation that a separation of the metals and mining business will take some time, having been slowed by weak market conditions (end markets and credit markets), and that it likely won't occur this year. In addition, Fitch expects the ultimate rating outcome would be in the mid to low-'BB' range.

The Negative Outlook reflects continued negative business trends as well as the potential separation of the M&M business. A separation, either in the form of a sale or a spin-off, would reduce the diversification and scale of Harsco's operations, which are already relatively small, as the M&M segment represents roughly two-thirds of revenues and one-third of profitability in 2015. In addition, there is some uncertainty around the ultimate capital structure and financial policies of the remaining Harsco.

Assuming a separation occurs, Harsco's business would be composed of the Rail and Industrials segments and a minority interest in the Brand joint venture. These segments, while posting weak results in 2015, are viewed by Fitch as having better growth and margin prospects than the M&M business longer-term.

The M&M segment (36.5% of 2015 operating earnings) was hurt in 2015 by foreign exchange translation, lower customer steel production and lower nickel-related sales. In addition, the company exited certain contracts as it works to improve upon persistently weak operating margins. Sales in the M&M segment declined by 19.7% in 2015 and are expected to be down in the high teens again in 2016. The segment operating margin narrowed in 2015 to 5.6% from 6.7% in 2014 and is expected to be stable to up slightly in 2016 as a result of the company's restructuring activities.

Sales in the industrial segment (33.5% of operating earnings) declined 13.5% in 2015 due to lower demand for heat exchangers used in natural gas processing. Operating margins improved in 2015 to 16% from 15.5%. However, sales and operating earnings are expected to be off sharply in 2016 due to weakness in oil and gas markets.

The rail segment (29.9%) experienced a 5.8% sales decline in 2015, but will benefit over the next few years from a new contract with Swiss Rail, offsetting weak rail markets in North America. A margin recovery is not expected before 2017.

Lower EBITDA and higher debt levels caused Harsco's credit metrics to weaken in 2015. Debt/EBITDA increased to 3.2x from 2.6x at the end of 2015, while EBITDA/interest narrowed to 6.3x from 7.5x. Assuming the Harsco business remains in its current form and the M&M is not separated, Fitch expects debt/EBITDA will increase further to the high-3x range in 2016 before gradually improving in 2017 and beyond. Positive FCF following suspension of the dividend will permit modest debt reduction going forward. The suspension of the dividend will save the company $66 million annually and result in FCF after dividends in the $50-60 million range in 2016 compared with negative $72 million in 2015.

Harsco amended its $500 million unsecured credit facility in December 2015, resulting in a $600 million secured facility composed of a $350 million revolver and a $250 million term loan A, both of which mature in June 2019. The collateral backing the facilities includes the capital stock of each direct subsidiary (65% of stock of foreign subs) and substantially all of the company's tangible and intangible assets. In addition, all of the company's domestic, wholly owned restricted subsidiaries guarantee the facilities. The proceeds from the term loan were used to repay borrowings on the revolver.

The ratings and Outlook incorporate:
--Ongoing cost-reduction actions, particularly in M&M, should mitigate a portion of the impact of weak sales on profitability
--Better growth prospects in the rail segment due to the contract with Swiss Rail
--Positive FCF following suspension of dividend

Concerns include Harsco's:
--Continued soft results across all three segments in 2016, with particular weakness in the industrial segment due to its exposure to oil and gas markets
--Subdued top-line growth prospects in M&M due to low global steel production, sales declines from exiting underperforming contracts and weak commodity prices
--Large customer concentrations in M&M segment, and associated risk of bad debts from distressed steel mills
--Sustained higher total leverage given lower profitability

KEY ASSUMPTIONS
--Sales decline by around 16% in 2016, due to weakness in the M&M and industrial segments
--The EBITDA margin is down only slightly in 2016 from 16.3% in 2015, supported by the company's restructuring activities
--Debt levels are reduced modestly with FCF
--FCF improves to $50-60 million due to the suspension of the dividend
--Debt/EBITDA increases to the high-3x range from 3.2x in 2015

RATING SENSITIVITIES
Future developments that may, individually or collectively, lead to a negative rating action include:

--The separation of the M&M business, given the resulting reduced scale and diversification. The ultimate rating impact of a separation would depend on the proceeds received and the extent to which they are used for debt reduction.
--Fitch expectation that debt/EBITDA will remain above 3-3.5x, and FFO adjusted leverage remain above 4-4.5x. These levels would likely be reset following a separation of the M&M business.
--FCF turns negative on a sustained basis.

The ratings are unlikely to be upgraded in the medium-term. Longer-term, developments that may, individually or collectively, lead to a positive rating action include:

--The company either retains the M&M business or the remaining business develops into a larger, more diversified operation.
--Stronger FCF generation.
--Debt/EBITDA is sustained under 2.5x, and FFO adjusted leverage under 3.5x.

LIQUIDITY
Harsco's liquidity at year-end 2015 is supported by cash of $79.8 million, of which $78.3 million was held overseas, but could be remitted to the U.S. with minimal tax implications. Liquidity is further supported by a $350 million secured revolver, on which $140.6 million was available. Liquidity is also supported by FCF, which Fitch expects will turn positive in 2016.

Harsco faces some refinancing risk over the medium term with its $449 million of 5.75% senior unsecured notes that mature on May 15, 2018. The revolver and $250 million secured term loan A both mature in June 2019, but the maturity date on these facilities accelerates to 91 days before May 15, 2018 if the notes have not been repaid by that date.

FULL LIST OF RATING ACTIONS

Fitch downgrades Dover Corporation's ratings as follows:

--Long-term IDR to 'BB' from 'BB+';
--Senior secured RCF to 'BB+/RR1' from 'BBB-/RR1';
--Senior secured term loan to 'BB+/RR1' from 'BBB-/RR1';
--Senior unsecured debt to 'BB/RR4' from 'BB+/RR4';

The ratings are removed from Rating Watch Negative. The Rating Outlook is Negative.