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PetSmart Downgraded to CCC due to Likelihood of Debt Exchange

S&P Global Ratings has downgraded PetSmart to CCC, from CCC+, citing an increased likelihood of the company pursuing a debt exchange over the next 12 months that would be viewed as distressed.

“Although the company does not have any meaningful near-term maturities and liquidity is likely to remain adequate, we think PetSmart’s capital structure is unsustainable given the continued weak results at its brick-and-mortar retail stores and operating losses at Chewy,” analyst Andy Sookram said in the report.

S&P revised its recovery rating on the company’s $4.3 billion first-lien term loan and its $1.35 billion of senior secured notes to 4, from 3, to reflect the release of Chewy.com as a guarantor under the term loan and the senior secured notes.

This allows the unsecured noteholders to share any residual value of Chewy.com on a pari passu basis with any deficiency claims of secured term lenders and noteholders. S&P also revised the recovery rating on the company’s

 

$1.9 billion of senior unsecured notes due 2023 and its $650 million of senior unsecured notes due 2025 to 5, from 6, reflecting its view of improved access to value that unsecured creditors have at Chewy.com pursuant to the release of the guaranty. (See “PetSmart unsecured bonds rally on Chewy spin-off news,” LCD News, June 4, 2018. $)

Chewy.com still guarantees and provides collateral to the ABL lenders.

Phoenix-based PetSmart faces significant headwinds in its strategy to turn around operations, which have been hurt by heightened competition from other online retailers, regional pet supply stores, and mass channel operators.

S&P sees a greater probability of a debt exchange or restructuring following the recent dividend to parent Argos Holdings that represents 20% of Chewy.com’s outstanding common stock. As a result, PetSmart’s ownership of Chewy.com has been reduced to 80%. This transaction could facilitate a potential separation of Chewy.com from PetSmart’s consolidated operations, which could occur either through additional dividends to the parent company, a potential sale, or a combination of these alternatives.

Following an EBITDA drop of about 30% for the last twelve months ended April 29, S&P views PetSmart’s capital structure as unsustainable given its forecast for continued EBITDA declines. The company’s $750 million asset-based revolver remained undrawn, with cash on hand at $331 million against debt of $8 billion. — Rachelle Kakouris

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