S&P cuts Reader's Digest

Standard & Poor's downgraded Reader's Digest Association Inc. including cutting its $192.5 million revolving credit facility due 2006, $250 million tranche A term loan due 2007 and $700 million tranche B term loan due 2008 to BB from BB+. The ratings were removed from CreditWatch negative. The outlook is negative.

S&P said the downgrade is based on the company's earnings drop in the fiscal year ended June 30, 2003, its weak operating outlook for the first half of fiscal 2004 and S&P's concerns regarding the company's increased business risk and uncertain long-term growth prospects.

EBITDA fell roughly 16% in fiscal 2003 versus the prior year, pro forma for a full year contribution from the May 2002 $760 million Reiman Publications acquisition. The decline in international profitability was not fully offset by reduced losses in the U.S. direct marketing book business. EBITDA from international businesses fell 53% in fiscal 2003 resulting from lower response rates in its direct marketing book business.

Reader's Digest still expects weaker results in the first half of fiscal 2004, because of lower international profitability and higher investment spending, S&P noted. The company is making $20 million of incremental investments in fiscal 2005 to fuel future growth. The company also is implementing an operational restructuring with the goal of reducing costs by $70 million by fiscal 2005. Reader's Digest expects that cost reductions should improve profitability in the second half of fiscal 2004, resulting in flat to slightly lower operating performance for the full fiscal 2004.

Nevertheless, S&P said it is concerned that the ongoing weak international operating environment may continue to have a negative effect on profitability.

Debt to EBITDA remained flat, at 3.6x since the May 2002 Reiman acquisition, as weak profitability and a $100 million share repurchase were offset by lower debt levels resulting from strong discretionary cash flow and a drawdown in cash balances, S&P said.

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