March 14, 2012 / 6:58 PM / 5 years ago

TEXT-S&P raises Dillard's Inc to 'BB'

Overview	
    -- U.S. department store retailer Dillard's Inc. has performed well
over the past year and we expect further gains over the near term.	
    -- We are raising the corporate credit rating to 'BB' from 'BB-'.	
     -- The stable outlook reflects our view that credit protection measures 	
will remain strong, but that the company will use substantially all of its 	
free operating cash flow for share repurchases.	
 	
Rating Action	
On March 14, 2012, Standard & Poor's Ratings Services raised its corporate 	
credit rating on Little Rock, Ark.-based Dillard's Inc. to 'BB' from 'BB-'. At 	
the same time, we raised the issue-level rating on the company's unsecured 	
debt to 'BB' from 'BB-' and maintained the '3' recovery rating, indicating our 	
expectation for meaningful (50% to 70%) recovery in the event of default. The 	
outlook is stable.	
 	
Rationale	
The upgrade reflects the company's steady performance growth over the past 	
year. It also incorporates our view that operations will demonstrate modest 	
gains over the next 12 months and credit protection measures will remain 	
strong. The ratings on Dillard's Inc. reflect performance over the past year 	
that has been in line with Standard & Poor's Ratings Services' expectations. 	
The ratings also incorporate the company's solid credit protection metrics and 	
our view that these measures are likely to remain indicative of an 	
"intermediate" financial risk profile (based on our criteria) over the near 	
term.	
	
Dillard's "weak" business profile reflects the risks of operating in a highly 	
competitive retailing sector and its relatively small position in the moderate 	
department store industry. Productivity measures, which historically have been 	
below its peers, have demonstrated improvement over the past year, and are now 	
commensurate with other moderate department stores.	
	
Revenues increased almost 3% over the past year based on same-store sales of 	
4% and some store closures. EBITDA margins increased to 10.9% to 9.7%, 	
primarily based on good cost controls in advertising and utilities. We expect 	
modest performance gains over the near term based on an improved economy. 	
However, we recognize that increased gas prices may partly offset benefits 	
from reduced commodity costs and lower unemployment rates. Specifically, our 	
assumptions for 2012 include:	
     -- Sales per square foot growth in the low-single digits.	
     -- Minimal growth in square footage.	
     -- Margins to expand to the low-11% area.	
     -- Share repurchases of about $400 million.	
 	
We assess the company's financial risk profile as intermediate. Over the near 	
term, we expect that leverage will remain in the low-1x area, EBITDA interest 	
coverage will approach the upper-8x range, and funds from operations to total 	
debt will be about 50%. Our forecast also incorporates expectations for about 	
$400 million of share repurchases over the next year.	
 	
Liquidity	
We assess Dillard's liquidity as "strong." We expect sources of cash to exceed 	
uses over the next 12 months. Cash sources include about $224 million of cash 	
on hand, free operating cash flow in the low-$300 million range, and about $1 	
billion of availability under its revolving credit facility. Cash uses are 	
likely to be about $125 million for capital expenditures and $400 million of 	
share repurchases.	
	
Other relevant aspects of the company's liquidity, in our view, are as follows:	
     -- We estimate coverage of uses to be above 1.5x.	
     -- We expect net sources would be positive, even with a 30% decline in 	
EBITDA.	
     -- Substantial unencumbered real estate assets, with ownership of about 	
87% of its stores.	
     -- No financial performance covenants.	
     -- Sound relationships with its banks.	
     -- Manageable debt maturities over the intermediate term.	
 	
Recovery analysis	
For the full recovery analysis, see the recovery report on Dillard's, to be 	
published as soon as possible after this report on RatingsDirect.	
 	
Outlook	
The stable outlook reflects our expectation for modest performance gains over 	
the next year. We expect the company to continue to accrue benefits from its 	
successful merchandise differentiation and good cost controls over the near 	
term. It incorporates our view that Dillard's will maintain its credit 	
protection measures, and that the company will use substantially all of its 	
free operating cash flow for share repurchase activity. 	
	
We would consider an upgrade if the company demonstrates further performance 	
gains through modestly positive same-store sales, strengthens margins because 	
of effective merchandising, and avoids meaningful markdown activity through 	
good inventory controls. This would lead to a positive reevaluation of its 	
business risk. At the same time, the company would have to at least maintain 	
its solid credit protection metrics.	
	
Although unlikely, we would consider a downgrade if the company becomes 	
meaningfully more aggressive with regards to shareholder-friendly activities. 	
Under this scenario, the company would issue over $750 million of debt to use 	
for share repurchases. This would result in leverage in the mid-2.0x area. 	
 	
Ratings List	
	
Upgraded	
                                        To                 From	
Dillard's Inc.	
 Corporate Credit Rating                BB/Stable/--       BB-/Stable/--	
	
Upgraded; Recovery Rating Unchanged	
                                        To                 From	
Dillard's Inc.	
 Senior Unsecured                       BB                 BB-	
   Recovery Rating                      3                  3	
	
Dillard's Capital Trust I	
 Preferred Stock                        B                  B-

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