Fitch Affirms and Withdraws Baxter's Ratings

Published: 2024-06-11 05:16:22 ET BAX

Fitch Ratings has affirmed and subsequently withdrawn Baxter International Inc. (BAX) and Baxter Healthcare SA's Long-Term Issuer Default Ratings (IDRs) and senior unsecured instrument ratings at 'BBB-', and BAX's Short-Term IDR and commercial paper rating (CP) at 'F3'.

The Rating Outlook is Stable.

The ratings have been withdrawn for commercial reasons. Fitch will therefore no longer provide rating or analytical coverage on Baxter.

Key Rating Drivers

Impact of the Kidney Co Separation: The Kidney Care business unit generated $4.4 billion in revenue in 2023, reflecting flat growth compared to the prior year period, and constituted 30% of total revenue. This business will operate in market segments totaling approximately $15 billion. The Kidney Co (Vantive) is expected to have leading positions in the areas in which it operates.

In Fitch's view, the separation will negatively impact BAX's business profile through a reduction in scale and diversification, and a weakened overall market position, considering BAX's significant revenue contribution from renal care businesses and its strong historical market position and reputation in renal care. These weaknesses are partially offset by an expected improvement in EBITDA margin and FCF margin, given Kidney Care's lower operating margins, and Fitch's expectation that a leaner product portfolio may allow management to more efficiently execute on operation optimization, supply chain management, and core portfolio growth.

EBITDA Leverage to Remain Elevated: BAX's EBITDA leverage has remained above Fitch's negative sensitivities since the Hill-Rom acquisition. Fitch had initially expected EBITDA leverage to decline to below 3.0x by 2024 through strong execution, improving margins, debt reduction and meaningful synergy realization. However, macroeconomic headwinds in 2022 have significantly impacted the company's operating performances. These headwinds included increased freight costs; inflation that led to higher input and labor prices; hospital staff shortages that led to delay in certain product installations; and most significantly, supply chain challenges, which limited the company's access to raw materials and electromechanical components.

The lower than expected EBITDA and FCF resulted in elevation in EBITDA leverage, meaningfully delaying the company's deleveraging timeline.

Fitch's current forecast assumes EBITDA leverage to decline to 4.2x and 3.6x in 2024 and 2025, respectively. Fitch expects deleveraging in 2024 to be predominantly driven by debt reduction with reserved proceeds from the recently completed BPS sale and the pending Kidney Co separation, and 2025 to be driven largely by remaining proceeds from Kidney Co separation and incremental voluntary repayment.

Diversification Supports Down-Cycle Demand: The company's business model is fairly diversified from a product and geographic perspective. Fitch believes the critical nature of BAX's global business should generally support relatively stable cash flows during economic downturns, albeit volatile in recent periods due to working capital swings and one-time expenses. BAX's business targets Medical Products and Therapies (34% of 2023 revenue), Kidney Care (30%) Healthcare Systems and Technologies (20%), Pharmaceuticals (15%) and other (1%).

Although the improvement in diversification from the Hill-Rom acquisition is expected to be more than offset by the divestiture of Kidney Care businesses, the company's pro forma diversification profile remains comparable to peers of similar ratings. The company targets both mature and developing countries and generated roughly 47% of its 2023 revenue in the U.S. and 53% of its revenue outside of the U.S.

Near-term Volatilities in FCF: Fitch expects FCF in 2024 to remain depressed relative to historical ($944 million in 2021) and outer year projections (above $800 million) due to meaningful business optimization and separation-related one-time costs. BAX historically generated solid FCFs supported by its stable end markets and the critical nature of its offerings. However, FCF after common dividends declined to -$36 million in 2022 from $944 million in 2021, due largely to significant working capital swings caused by inflationary pressures and substantial supply chain challenges.

Commitment to New Products: BAX is focused on improving its global core portfolio, and continuing to evaluate potential in its portfolio rationalization opportunities. The company continues to reallocate its investments into higher-margin, faster-growing businesses and is focusing on improvements to existing technologies and entirely new offerings. Fitch expects BAX to modestly increase R&D spending to restore growth to mid-single digits over the medium to longer term.

Derivation Summary

Baxter is a large, diversified medical device firm focused on a broad portfolio of essential healthcare products. The company's products are used by hospitals, kidney dialysis centers, nursing homes, rehabilitation centers, doctors' offices and by patients at home under physician supervision. Baxter is a leader in the categories in which it competes. Demand for the company's products is relatively reliable, although revenues are modestly sensitive to the macroeconomic environment through reimbursement rates (pricing) and hospital capex and, to a lesser extent, utilization.

Given the company's combination of assets, no single company competes with Baxter in all of its businesses, but it faces substantial competition in each of its segments. The ratings of Baxter's medical device peers Boston Scientific Corporation (BBB+/Stable); Zimmer Biomet Holdings, Inc. (BBB/Stable); and Becton, Dickinson & Company (BBB/Stable), are considered in the analysis.

Fitch takes a weak parent (Baxter International Inc.)/strong subsidiary (Baxter Healthcare SA) approach, reflecting its Parent-Subsidiary Linkage Rating Criteria. Fitch believes there is open ring-fencing and access and control. As such, Fitch rates the parent and subsidiary at the consolidated level with no notching between the two.

Baxter International Inc. is the parent and filing entity. This entity issues the majority of debt, including the U.S.-denominated unsecured revolver, CP, unsecured term loans and unsecured notes. Baxter Healthcare SA is the primary European operating subsidiary of Baxter International Inc. and is the borrower of the EUR200 million unsecured revolver. Given the proportion of debt at each entity, Fitch identifies Baxter Healthcare SA as having the stronger credit profile.

Key Assumptions

For modelling purposes, these assumptions assume Kidney Co separation completes on July 1, 2024:

Low-single-digit pro forma revenue growth;

EBITDA margins to improve over the rating horizon, driven primarily by the divestiture of the lower margin kidney care businesses and, to a lesser extent, by operational efficiency improvement;

Right-sizing of capex and common dividends post-separation;

BPS sale proceeds, Kidney Co. divestiture proceeds and FCF predominantly deployed towards debt repayment;

No share repurchases or M&As assumed over the rating horizon.

RATING SENSITIVITIES

Factors That Could, Individually or Collectively, Lead to Positive Rating Action/Upgrade

EBITDA Leverage durably below 3.25x;

--(CFO-Capex)/debt durably above 10%.

Factors That Could, Individually or Collectively, Lead to Negative Rating Action/Downgrade

EBITDA Leverage durably above 3.75x without the prospect for timely deleveraging;

--(CFO-Capex)/debt durably below 7.5%.

Liquidity and Debt Structure

Solid Liquidity: Liquidity is supported by cash on hand of $3.0 billion at Mar. 31, 2024, full availability under its $2.5 billion revolving credit facility due 2026, and full availability under its EUR200 million revolving credit facility due 2026. The company also maintains a $2.5 billion CP program backed by its U.S. revolver, which had no outstanding borrowings at Mar. 31, 2024.

Debt Maturities: BAX has over $2 billion in maturities within the next 12 months. Fitch expects these could be repaid or refinanced contingent upon the outcome and timing of the Kidney Co separation process and the company's FCF generation.

Issuer Profile

Baxter International Inc. provides a broad portfolio of essential healthcare products, including acute and chronic dialysis therapies; sterile intravenous solutions; infusion systems and devices; parenteral nutrition therapies; inhaled anesthetics; generic injectable pharmaceuticals; surgical hemostat and sealant products, advanced surgical equipment; smart bed systems; patient monitoring and diagnostic technologies; and respiratory health devices.

Summary of Financial Adjustments

EBITDA adjustments were made for asset and goodwill impairments, business optimization items, acquisition and integration costs, and divestiture related costs.

REFERENCES FOR SUBSTANTIALLY MATERIAL SOURCE CITED AS KEY DRIVER OF RATING

The principal sources of information used in the analysis are described in the Applicable Criteria.

MACROECONOMIC ASSUMPTIONS AND SECTOR FORECASTS

Click here to access Fitch's latest quarterly Global Corporates Macro and Sector Forecasts data file which aggregates key data points used in our credit analysis. Fitch's macroeconomic forecasts, commodity price assumptions, default rate forecasts, sector key performance indicators and sector-level forecasts are among the data items included.

ESG Considerations

The highest level of ESG credit relevance is a score of '3', unless otherwise disclosed in this section. A score of '3' means ESG issues are credit-neutral or have only a minimal credit impact on the entity, either due to their nature or the way in which they are being managed by the entity. Fitch's ESG Relevance Scores are not inputs in the rating process; they are an observation on the relevance and materiality of ESG factors in the rating decision. For more information on Fitch's ESG Relevance Scores, visit https://www.fitchratings.com/topics/esg/products#esg-relevance-scores.