PetSmart, Inc. -- Moody's affirms PetSmart's B2 CFR; assigns B1/Caa1 ratings to new debt; outlook positive

Rating Action: Moody's affirms PetSmart's B2 CFR; assigns B1/Caa1 ratings to new debt; outlook positive

Global Credit Research - 27 Jan 2021

New York, January 27, 2021 -- Moody's Investors Service, ("Moody's") today affirmed PetSmart, Inc.'s ("PetSmart") corporate family rating and probability of default rating at B2 and B2-PD respectively. Additionally, Moody's assigned a B1 rating to its new proposed senior secured term loan, a B1 rating to its new proposed senior secured notes and a Caa1 rating to its new proposed senior unsecured notes. The proceeds of the new proposed facilities will be used to refinance existing debt. The outlook is changed to positive from stable. The ratings are subject to completion of the transaction as proposed and review of final documentation.

"The change in the outlook reflects the governance considerations particularly its financial strategy associated with the company's significant debt reduction through proceeds from the monetization of Chewy stock and additional debt reduction from the expected $1.3 billion in new equity contribution from the sponsors", Moody's Vice President Mickey Chadha stated. "In addition, the operating performance of the company has also been above expectations especially during the coronavirus related disruptions and Moody's therefore expects leverage to improve to below 4.5x in the next 12-18 months", Chadha further stated.

Affirmations:

..Issuer: PetSmart, Inc.

.... Probability of Default Rating, Affirmed B2-PD

.... Corporate Family Rating, Affirmed B2

Assignments:

..Issuer: PetSmart, Inc.

....Senior Secured Term Loan, Assigned B1 (LGD3)

....Senior Secured Regular Bond/Debenture, Assigned B1 (LGD3)

....Senior Unsecured Regular Bond/Debenture, Assigned Caa1 (LGD5)

Outlook Actions:

..Issuer: PetSmart, Inc.

....Outlook, Changed To Positive From Stable

RATINGS RATIONALE

PetSmart's B2 corporate family rating is supported by the company's very good liquidity and its position as the largest specialty retailer of pet products and services in the US. Although the company's leverage is high, Moody's expects lease adjusted debt/EBITDA to be below 4.5x in the next 12-18 months. PetSmart has improved leverage significantly as the company has reduced debt through the monetization of Chewy stock and improved EBITDA. For the LTM period ended November 1, 2020 leverage was at 5.4x compared to 7.1x at the end of fiscal 2019. Pro forma for the refinancing, leverage will improve further to about 4.5x as the sponsors will contribute about $1.3 billion in equity with proceeds used to further reduce debt.

Chewy is currently a non-guarantor restricted subsidiary of PetSmart. However, after the refinancing, Chewy will no longer be a subsidiary of PetSmart but will become a sister company of PetSmart under common ownership of a parent controlled by the sponsors. Therefore post refinancing Chewy will provide no credit or liquidity support to PetSmart other than a $4 billion Chewy common stock pledge as collateral for PetSmart's new secured debt. The pledgor of the stock collateral will also guarantee the secured and unsecured debt of PetSmart. However, the stock collateral and the pledgor guarantee will fall away if total net leverage is equal to or less than 2.00x. Moody's views the transfer of Chewy's ownership stake as credit negative and expects all future proceeds from monetization of Chewy stock will go to the equity sponsors. Chewy currently has a market value of about $42 billion which values PetSmart's current 62% ownership of Chewy at about $26 billion. Governance remains a key credit consideration given that PetSmart's financial strategies will continue to be dictated by its private equity owners.

The pet products and services industry remains highly competitive with increasing competition from the mass retailers including large chains like Walmart, Target, and Kroger and pure play e-commerce retailers like Amazon and Chewy. Despite the close to 300% increase in omnichannel sales which include buy online pickup in store (BOPIS), ship to home and ship from store, in the first three quarters Moody's estimates the company's e-commerce penetration remains low at less than 5%. However, PetSmart has demonstrated the resilience of its business model as it very successfully navigated the disruptions caused by the coronavirus pandemic reporting comparable store sales growth of 8.4% for the first nine months of fiscal 2020.

Other positive rating factors include PetSmart's well-known brand and broad national footprint. The company's sizeable services offering is a positive as it provides a defensible market position and is less vulnerable to e-commerce. The pet products industry in general remains relatively recession resilient, driven by factors such as the replenishment nature of consumables and services and increased pet ownership. Moody's expects the company to continue to report comparable store sales growth in fiscal 2021 as its proprietary brands and specialty offerings continue to resonate with customers.

The positive outlook reflects Moody's expectation that the current positive operating trends will be sustained supporting further improvement in credit metrics over the next 12 months, that PetSmart's financial strategies will support a further reduction in leverage and that liquidity will remain very good.

FACTORS THAT COULD LEAD TO AN UPGRADE OR DOWNGRADE OF THE RATINGS

Sustained growth in revenue and profitability and continued free cash flow generation while demonstrating conservative financial policies could lead to a ratings upgrade. Quantitatively, ratings could be upgraded if debt/EBITDA is sustained below 4.5 times and if EBIT/interest expense is sustained above 2.5 times while maintaining very good overall liquidity.

PetSmart's ratings could be downgraded if overall operating trends decline or if operating margins erode, indicating that the company's industry or competitive profile is weakening. Ratings could also be downgraded if the company's financial policies were to become aggressive particularly in terms of dividends and acquisitions or if liquidity deteriorates. Quantitatively, a ratings downgrade could occur if debt/EBITDA does not improve and remains above 5.75 times or EBIT/interest is sustained below 1.5 times.

The term loan is expected to contain covenant flexibility for transactions that could adversely affect lenders, including: incremental facility capacity up to: (i) the greater of $952M and 0.75x pro forma Consolidated EBITDA plus (ii) an unlimited amount subject to (a) if secured by the collateral on a pari passu basis, 2.75x first lien net leverage; (b) if secured by the collateral on a junior priority basis, 3.25x senior secured net leverage; (c) if unsecured, 3.75x total net leverage (or, if junior secured or unsecured debt is incurred in connection with a permitted acquisition or other investment, senior secured net leverage or total net leverage, respectively not increasing). Collateral leakage is permitted through the transfer of assets to unrestricted subsidiaries, there are no additional "blocker" protections. Only wholly-owned subsidiaries must provide guarantees raising the risk of guarantee release; partial dividends of ownership interests could jeopardize guarantees. There are no leverage-based step-downs to the requirement that net asset sale proceeds prepay the loans or be reinvested.

PetSmart, Inc. is the largest specialty retailer of supplies, food, and services for household pets in the U.S. The company currently operates close to 1,650 stores in the U.S. and Canada. Revenues total about $7.5 billion (excluding Chewy). The company is owned by a consortium of sponsors including BC Partners, Inc., La Caisse de dépôt et placement du Québec, affiliates of GIC Special Investments Pte Ltd, affiliates of StepStone Group LP, and Longview Asset Management, LLC. PetSmart currently owns 62% of Chewy, a leading online retailer of pet food and products in the United States. However, post transaction PetSmart will not own Chewy.

The principal methodology used in these ratings was Retail Industry published in May 2018 and available at https://www.moodys.com/researchdocumentcontentpage.aspx?docid=PBC_1120379. Alternatively, please see the Rating Methodologies page on www.moodys.com for a copy of this methodology.

REGULATORY DISCLOSURES

For further specification of Moody's key rating assumptions and sensitivity analysis, see the sections Methodology Assumptions and Sensitivity to Assumptions in the disclosure form. Moody's Rating Symbols and Definitions can be found at: https://www.moodys.com/researchdocumentcontentpage.aspx?docid=PBC_79004.

For ratings issued on a program, series, category/class of debt or security this announcement provides certain regulatory disclosures in relation to each rating of a subsequently issued bond or note of the same series, category/class of debt, security or pursuant to a program for which the ratings are derived exclusively from existing ratings in accordance with Moody's rating practices. For ratings issued on a support provider, this announcement provides certain regulatory disclosures in relation to the credit rating action on the support provider and in relation to each particular credit rating action for securities that derive their credit ratings from the support provider's credit rating. For provisional ratings, this announcement provides certain regulatory disclosures in relation to the provisional rating assigned, and in relation to a definitive rating that may be assigned subsequent to the final issuance of the debt, in each case where the transaction structure and terms have not changed prior to the assignment of the definitive rating in a manner that would have affected the rating. For further information please see the ratings tab on the issuer/entity page for the respective issuer on www.moodys.com.

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These ratings are solicited. Please refer to Moody's Policy for Designating and Assigning Unsolicited Credit Ratings available on its website www.moodys.com.

Regulatory disclosures contained in this press release apply to the credit rating and, if applicable, the related rating outlook or rating review.

Moody's general principles for assessing environmental, social and governance (ESG) risks in our credit analysis can be found at https://www.moodys.com/researchdocumentcontentpage.aspx?docid=PBC_1133569.

At least one ESG consideration was material to the credit rating action(s) announced and described above.

The Global Scale Credit Rating on this Credit Rating Announcement was issued by one of Moody's affiliates outside the EU and is endorsed by Moody's Deutschland GmbH, An der Welle 5, Frankfurt am Main 60322, Germany, in accordance with Art.4 paragraph 3 of the Regulation (EC) No 1060/2009 on Credit Rating Agencies. Further information on the EU endorsement status and on the Moody's office that issued the credit rating is available on www.moodys.com.

The Global Scale Credit Rating on this Credit Rating Announcement was issued by one of Moody's affiliates outside the UK and is endorsed by Moody's Investors Service Limited, One Canada Square, Canary Wharf, London E14 5FA under the law applicable to credit rating agencies in the UK. Further information on the UK endorsement status and on the Moody's office that issued the credit rating is available on www.moodys.com.

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Manoj Chadha VP - Senior Credit Officer Corporate Finance Group Moody's Investors Service, Inc. 250 Greenwich Street New York, NY 10007 U.S.A. JOURNALISTS: 1 212 553 0376 Client Service: 1 212 553 1653 Margaret Taylor Associate Managing Director Corporate Finance Group JOURNALISTS: 1 212 553 0376 Client Service: 1 212 553 1653 Releasing Office: Moody's Investors Service, Inc. 250 Greenwich Street New York, NY 10007 U.S.A. JOURNALISTS: 1 212 553 0376 Client Service: 1 212 553 1653

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