FXI’s proposed bonds price in the risk of an upcoming recession that could wreak havoc on its balance sheet, as the borrower sets off on an acquisition of mattress foam maker Innocor that will increase its exposure to the bedding industry, according to five sources following the deal.
The pro forma company will have relatively low leverage and a healthy free cash flow profile. And while the acquisition will reduce FXI’s reliance on the cyclical auto industry, added exposure to the mattress industry still leaves it susceptible to economic and housing downturns, the sources continued.
FXI disclosed its plans to acquire peer Innocor in March 2019 through additional secured debt issuance, as reported by Debtwire. The acquisition includes a cash purchase price of USD 850m and is expected to close in 4Q19. Upon closing, FXI’s current sponsor One Rock Capital Partners will continue to own the company while Innocor sponsor Bain Capital will own a minority stake.
Lead bank Jefferies is roadshowing the USD 775m senior secured notes due 2026 through the middle of next week. Whispers for the bonds are in the 11.75%-12% area, sources noted.
For comparison, the company’s existing USD 525m 7.875% senior secured notes due 2024 – which are pari passu with the new notes and will remain outstanding — last traded at 90.25 to yield 10.414%, up from trades at 87 to yield 11.318% last week, according to MarketAxess.
Back to bed
FXI operates in four segments: bedding (35% of LTM revenue), furniture (28% of LTM revenue), transportation (25% of LTM revenue) and technical (12% of LTM revenue).
The merger is expected to increase the company’s exposure to bedding to nearly 60%, while lowering its exposure to the transportation and technical space to a combined 21%, according to deal documents.
Sources admitted that moving away from auto sector cyclicality is a positive for the company. But the bedding and furniture segments, while less cyclical, are still linked to the larger econonmy, and with the impending risk of recession, investors are demanding higher yields on their investment, the sources said.
“Investors are definitely pricing in risk of owning these credits through a cycle,” one of the sources said.
During the last recession, companies such as Tempur-Sealy and Serta Simmons posted large earnings declines, citing the effects of the downturn on the whole home furnishings space, according to media reports at the time.
And with FXI moving vertically into the bedding industry, its credit profile faces the additional risk of having to keep up with trends in the mattress space – such as customization, eco-friendly and multi-functional beds, one of the sources said.
“With the mattress market changing, the question is three to five years down the line, when there’s alternatives, will FXI able to keep up?” the source added.
The company is marketing the deal on 4.2x pro forma leverage through USD 1.3bn of total debt and USD 312m pro forma LTM EBITDA. Liquidity is expected to total USD 262m at deal close, based on USD 27m of cash and a new undrawn USD 235m ABL facility.
FXI is projecting USD 75m of synergies, spanning operational improvements, volume consolidation and logistics, according to deal documents. As a part of the merger, the combined company also expects to divest three foam pouring manufacturing facilities, which would have accounted for USD 15m–USD 20m of adjusted EBITDA and is not included in the pro forma USD 312m figure.
Additionally, as a baseline support for EBITDA, sources pointed to the company’s chemical collar mechanism, which works by triggering a revised price structure when commodity costs move outside of a certain range per contract.
“FXI partially mitigates gross margin volatility with its ‘cost-plus’ and ‘pass-through’ contracts,” Moody’s analysts wrote in a report yesterday.
But sources give the company credit for only roughly USD 45m–USD 55m of the expected synergies, which results in projections of USD 282m–USD 292m for pro forma EBITDA. Still, that would bring pro forma free cash flow to USD 128m–USD 143m (9.8%-11% of total debt), based on USD 15m–USD 20m of capex and USD 134m of interest expense, according to two of the sources.
FXI did not respond to a request for comment. Jefferies declined comment.