DBRS Places R.R. Donnelley & Sons Company Under Review – Developing

Dominion Bond Rating Service (DBRS) has today placed the A (low) and R-1 (low) ratings of R.R. Donnelley & Sons Company (RR Donnelley or the Company) Under Review with Developing Implications, based on the heightened probability of shareholder-friendly initiatives and/or material increases in debt. RR Donnelley appears to be the target of a leveraged buyout (LBO) from private equity groups. As a result, the Company’s third largest shareholder (owning approximately 5%) is requesting the Company to initiate a $3 billion buyback program in order to discourage any possible LBO. DBRS notes that the Company generates free cash flow that in turn could be used by help finance a possible LBO.

Notwithstanding these possible shareholder-friendly initiatives or material increase in debt that has created uncertainty, DBRS notes RR Donnelley’s underlying business risk remains stable reflecting (1) the Company’s ability to grow EBITDA despite a challenging industry environment, (2) considerable economies of scale as RR Donnelley is the largest commercial printing company in North America, (3) the Company is diversified across product offering, geographically and customer base and (4) strong and recurring cash flow from operations.

RR Donnelley has gained momentum and is winning market share organically, largely as a result of its broad platform, aggressive pricing strategies and managed solution offerings. The Company is able to maintain margins in this declining pricing environment as a result of its lower cost structure due to its scale economies, procurement and distribution, less unionization than its peers, as well as from its advanced printing platform. The Company invested in its platform early on and is now benefiting from more efficient processes.

Notwithstanding, RR Donnelley operates in a difficult environment whereby several structural changes are affecting the industry, which continues to pressure pricing. This includes low capacity utilization in the United States (albeit on an improving trend recently) and stagnant U.S. advertising pages growth. DBRS notes there continues to be oversupply issues, exacerbated by upgraded presses that have greater capacity and when old equipment is sold and reused (hence, the multitude of smaller printing companies). Furthermore, DBRS expects demand to remain relatively stagnant due to the Internet and digital technology, which have resulted in a secular shift away from print products. Print-based media are increasingly used less as information sources and thus advertisers are reducing their allocation to print media and rapidly accelerating their spending on Internet advertising.

Lastly, DBRS notes the Company’s main competitor, Quebecor World Inc., is currently busy upgrading its printing platform with state-of-the-art presses. This could intensify competition in the medium term and begin to pressure margins. Recent acquisitions have been effectively and efficiently integrated without issue and, hence, DBRS believes RR Donnelley should be able to grow EBITDA organically due to its lower cost structure, cross-selling gains and strong commitment to large key customers.

DBRS notes that RR Donnelley’s financial profile remains reasonably strong, despite increases in debt used to fund acquisitions and share buybacks. However, given the challenges in the industry, DBRS believes that RR Donnelley does not have the capacity to increase debt significantly – especially to fund sizeable shareholder-friendly initiatives – and maintain an A (low) rating.

Note:
These ratings are based on public information.
All figures are in U.S. dollars unless otherwise noted.