Rating Action Overview
- We revised downward our assessment of the group credit profile (GCP) of ATI Global Ltd. (ATIG) to 'b-' from 'b' to reflect deteriorating financial leverage.
- ATIG reported higher gross debt than our previous expectation. The reported gross debt includes a payment-in-kind (PIK) facility which spiked in fiscal 2022 (June year-end) to fund bolt-on acquisitions and further growth initiatives.
- We consider Legal Search Holdings Pty Ltd. to be a core subsidiary of ATIG. As such, we align the long-term issuer credit rating on the Australia-based legal technology company with the GCP of ATIG. As a result, we lowered the long-term issuer rating on Legal Search to 'B-' from 'B'. At the same time, we affirmed our long-term issue rating on the company's first-lien senior secured notes at 'B' and lowered the rating on its second-lien senior secured notes to 'CCC' from 'CCC+'.
- The stable rating outlook on Legal Search reflects our view that ATIG will reduce its financial leverage over the next 18 months with increased earnings from recent acquisitions and that Legal Search will remain a core entity of the ATIG group.
Rating Action Rationale
Our downgrade of Legal Search follows our downward revision of ATIG's GCP to 'b-' from 'b'. In our view, ATIG's credit quality has weakened. The company has drawn down net proceeds of A$637 million on its PIK debt facility. This increased its adjusted gross debt-to-EBITDA ratio to 12.6x in fiscal 2022 from 6.4x in fiscal 2021.
We consider Legal Search to be a core subsidiary of ATIG. Legal Search contributes 70%-80% to the group's total revenue. In addition, we believe Legal Search forms an integral part of the group's growth aspirations and is key to ATIG's operating strategy.
We generally do not rate a subsidiary higher than the GCP, even if the stand-alone credit profile (SACP) of the subsidiary is higher than our GCP assessment. We maintain our assessment of Legal Search's SACP at 'b'.
We believe a weaker parent could divert assets from its subsidiaries or burden them with liabilities during financial stress. Therefore, our rating on Legal Search is based on our view of ATIG's tolerance for high financial leverage and its willingness to undertake debt-funded acquisitions. Given the deterioration in ATIG's credit quality, we equate Legal Search's credit quality with our 'b-' credit assessment of ATIG.
Our assessment of Legal Search's SACP considers its lower financial leverage and our expectation of its deleveraging over the next 12-18 months. Legal Search will likely prioritize integrating and generating higher earnings from its acquisitions. We believe the company's ability to extract synergistic benefits and introduce new product offerings will support its earnings.
Our base case assumes an adjusted gross debt-to-EBITDA ratio of below 6x for Legal Search by fiscal 2024, down from 7x as of fiscal 2022. In contrast, we estimate ATIG's adjusted gross debt-to-EBITDA ratio will be at about 11x over the next 18 months, versus 12.6x as of fiscal 2022.
Our adjusted metrics assume ATIG will not need to pay the non-cash interest expense on the PIK facility. We also add any accrued interest to our adjusted debt number.
We maintain our business risk assessment, which reflects the group's leading market position as an integrated search and workflow solutions provider in Australasia, the U.K., and the U.S. Revenue stability and long-standing relationships with data license holders will bolster the group's competitive position.
Our business risk assessment is constrained by ATIG's smaller scale than its larger global peers and the industry's modest barriers to entry. We also consider ATIG's markets to be fragmented, and believe growing data aggregation and digitization trends will stiffen competition among existing players.
The stable outlook on Legal Search reflects our view that the company is a core member of the ATIG group. ATIG will likely extract synergies from its recent acquisitions that would increase its earnings over the next 12-18 months.
The group has a highly leveraged debt capital structure, in our assessment. Its ability to successfully integrate and expand its product offerings is key to maintaining earnings through market cycles that will allow it to deleverage.
We also do not expect Legal Search to increase its financial leverage.
We could downgrade Legal Search if we believe that deleveraging at ATIG is delayed or the group's financial leverage has worsened from current elevated levels. At such levels, we believe the capital structure could be unsustainable.
We could also lower the ratings if the group's liquidity position materially deteriorates.
An upgrade of Legal Search will depend on an improvement in ATIG's credit quality. This could occur if we believe the group has a credible deleveraging path that can sustain its adjusted gross debt-to-EBITDA ratio below 7x.
Legal Search is a technology company that provides integrated search platforms designed to increase efficiency and productivity for conveyancing, legal, and professional firms. The company operates in Australia, New Zealand, the U.K., and North America. It is a subsidiary of Sydney-based ATIG.
Legal Search reported revenue of about A$621 million and EBITDA of about A$130 million in fiscal 2022.
Our Base-Case Scenario
- Australia real GDP growth of 1.7% in 2023 and 1.9% in 2024;
- Australia consumer price index growth of 5.9% in 2023 and 3.9% in 2024;
- Moderate revenue growth for Legal Search over the next 18 months, led by higher product pricing. This will be partially offset by lower transaction volumes, given high interest rates across Australia, New Zealand, and the U.K.
- Higher EBITDA margins from increased efficiencies, partly lowered by partial expensing of software development costs.
- Higher interest expense due to the company's term loans with a benchmark interest component.
- Minimal working capital outflow and incrementally higher capital expenditure (capex) for the business to grow.
- Minimal debt amortization under the first-lien term loan.
- Acquisitions of about A$70 million per annum for the next two fiscal years as the company seeks to expand its product offerings.
- Cash dividends paid at 15% of net profits after tax.
- No surplus cash applied to reported debt balances.
On a stand-alone basis, Legal Search has much lower financial leverage than ATIG. We expect the company's earnings and margins to improve from a successful integration of its software products. Our base case assumes its adjusted gross debt-to-EBITDA ratio will drop to below 6x by fiscal 2024, from 7x as of fiscal 2022.
However, our base case for ATIG assumes its adjusted gross debt-to-EBITDA ratio will remain elevated at about 11x over the next 18 months. We consider the group's debt capital structure to be unsustainable at this high level.
While ATIG's debt maturity profile does not pose liquidity pressure over the next two years, the group could require substantial and lumpy debt refinancing in future, that would heighten our focus on its liquidity position.
We assess Legal Search's liquidity as 'adequate'. We assume the company's sources of liquidity, including cash on balance sheet and an undrawn facility of about A$28 million, would cover uses by 1.2x or more over the 12 months ending June 30, 2023. Net sources should remain positive even if EBITDA declines by 15%.
Principal liquidity sources
- Funds from operations (FFO) of A$60 million-A$80 million over the 12 months ending June 30, 2023;
- Cash balance of about A$140 million as of June 30, 2022; and
- An undrawn facility limit of about A$28 million as of Dec. 31, 2022.
Principal liquidity uses
- Minimal working capital outflow over the 12 months ending June 30, 2023;
- Mandatory debt amortization of A$5 million-A$10 million per year over the same period;
- Acquisitions of about A$70 million over the same period;
- Capex of A$10 million-A$20 million over the same period.
- Dividends of A$5 million-A$10 million over the same period.
Legal Search's term loans and revolving credit facility are covenant-light with incurrence-based covenants. We expect the company to comply with the debt facility terms.
Limitations on the incurrence of additional debt would be triggered if the following ratios are exceeded:
- Consolidated first-lien secured debt to consolidated EBITDA of 5.5x.
- Consolidated total secured debt to consolidated EBITDA of 6.75x.
Environmental, Social, And Governance
ESG credit indicators: E-2; S-2; G-3
Governance is a moderately negative consideration in our credit rating analysis of Legal Search. This reflects primarily the company's ownership structure, with a majority shareholder holding about 60% of its parent company.
In our view, Legal Search's board lacks independence from management. This could prevent the company from serving the interests of all stakeholders.
Additionally, we believe there is limited transparency and disclosure at the ATIG group level.
Issue Ratings - Recovery Analysis
Key analytical factors
Our recovery analysis for Legal Search contemplates a hypothetical simulated default in the first half of 2025. The recovery rating of '2' and issue rating of 'B' on the senior secured first-lien term loan facility reflect our expectations for a substantial recovery of 70% in the event of a default.
The recovery rating of '6' and issue rating of 'CCC' on the senior secured second-lien term loan facility reflect our expectation of negligible recovery prospects (0%-10%) in the event of a payment default. The rating on the second-lien term loan facility has been lowered to 'CCC' from 'CCC+'.
At the time of hypothetical default, we expect weaker macroeconomic conditions to pressure the group's operations, coupled with the emergence of a strong competing service that erodes the group's competitive position and customer base. This results in lower renewal rates and will force the group to materially reduce prices and margins to retain customers, placing pressure on EBITDA.
At the same time, the group's capex is limited to the maintenance portion and the group has limited options to sell nonviable or challenging business segments.
In our view, Legal Search will be sold as a going concern because we expect that following a payment default, the company is likely to be reorganized and consolidated due to the longer-term value in its niche services and brand. We applied a 5.5x valuation multiple to an estimated distressed emergence EBITDA of about A$87.8 million to project a gross enterprise value of about A$482.7 million.
Simulated default assumptions
- Simulated year of default: 2025
- EBITDA at emergence: A$87.8 million
- EBITDA multiple: 5.5x
- Jurisdiction: Australia
- All debt amounts include six months of prepetition interest.
- Gross enterprise value at emergence: A$482.7 million
- Administrative costs: A$24.2 million
- Net value attributable to creditors: A$458.5 million
- Estimated secured first-lien claims (including prepetition interest): A$638.3 million
- Recovery expectations: 70%-90% (rounded estimate: 70%)
- Recovery rating: '2'
- Estimated secured second-lien claims (including prepetition interest): A$228.1 million
- Recovery expectations: 0%-10% (rounded estimate: 0%)
- Recovery rating: '6'
Ratings Score Snapshot
Issuer Credit Rating: B-/Stable/--
Business risk: Weak
- Country risk: Very Low
- Industry risk: Intermediate
- Competitive position: Weak
Financial risk: Highly Leveraged
- Cash flow/leverage: Highly Leveraged
- Diversification/Portfolio effect: Neutral (no impact)
- Capital structure: Neutral (no impact)
- Financial policy: Neutral (no impact)
- Liquidity: Adequate (no impact)
- Management and governance: Fair (no impact)
- Comparable rating analysis: Neutral (no impact)
Stand-alone credit profile: b
- Group credit profile: b-
- Entity status within group: Core (-1 notch)
- General Criteria: Environmental, Social, And Governance Principles In Credit Ratings, Oct. 10, 2021
- General Criteria: Group Rating Methodology, July 1, 2019
- Criteria | Corporates | General: Corporate Methodology: Ratios And Adjustments, April 1, 2019
- Criteria | Corporates | General: Recovery Rating Criteria For Speculative-Grade Corporate Issuers, Dec. 7, 2016
- Criteria | Corporates | General: Methodology And Assumptions: Liquidity Descriptors For Global Corporate Issuers, Dec. 16, 2014
- Criteria | Corporates | General: Corporate Methodology, Nov. 19, 2013
- General Criteria: Country Risk Assessment Methodology And Assumptions, Nov. 19, 2013
- General Criteria: Methodology: Industry Risk, Nov. 19, 2013
- General Criteria: Methodology: Management And Governance Credit Factors For Corporate Entities, Nov. 13, 2012
- General Criteria: Principles Of Credit Ratings, Feb. 16, 2011
- Legal Search Holdings Pty Ltd., March 21, 2022
Legal Search Holdings Pty Ltd.
|Issuer Credit Rating||B-/Stable/--||B/Stable/--|
Legal Search Pty Ltd.
|AUD217 mil fltg rate 2nd Lien Term bank ln due 03/29/2030||CCC||CCC+|
Legal Search Pty Ltd.
|AUD608 mil fltg rate 1st Lien Term bank ln due 03/30/2029||B|
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|Primary Credit Analyst:||Puchen Wang, Melbourne (61) 3-9631-2099;|
|Secondary Contact:||Craig W Parker, Melbourne + 61 3 9631 2073;|
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