Fitch Affirms DCert Buyer's IDR at 'B'; Outlook Stable
(The following statement was released by the rating agency)Fitch Ratings-Chicago-04 February 2021:
Fitch Ratings has affirmed DCert Buyer, Inc.'s (operating as DigiCert) Long-Term Issuer Default Rating (IDR) at 'B'. The Rating Outlook is Stable. Fitch has also affirmed DCert Buyer's $125 million first lien secured revolver and upsized $1.975 billion first-lien term loan at 'BB-'/'RR2' and published a 'CCC+'/'RR6' rating for the upsized $605 million second-lien term loan. DigiCert plans to upsize its first lien term loan by $337 million and 2nd lien term loan by $130 million. The proceeds, along with cash on balance sheet, will be used for dividend payment to shareholders. The revolving credit facility remains undrawn.
The ratings reflect DigiCert's resilient business model and dominant position within the Public Key Infrastructure (PKI) and Certificate Authority (CA) markets that enable continuing growth of digitalization of information supporting growth in use cases and internet traffic. The company's technology is utilized by 89% of Fortune 500 companies and 87% of e-commerce transactions. DigiCert has experienced limited impact in its business from the coronavirus pandemic given the mission criticality of its products for customers with an internet presence.
In spite of DigiCert's strong operating profile, its private equity ownership is likely to optimize return on equity (ROE) by maintaining some level of financial leverage. This is likely to limit positive rating actions. With the planned dividend recapitalization, Fitch forecasts gross leverage to remain at over 7x through 2022 leaving no capacity for incremental debt in the near term.
Key Rating Drivers
Strong Position in Niche Segment: DigiCert has effectively consolidated the CA industry with a solid leading position and an even stronger position in the core Extended Validation (EV) and Organizational Validation (OV) segments. The industry is expected to grow in the high single digits in the near term, with EV and OV growing at near 10% and Domain Validation (DV) at mid-single-digits.
Limited Technology Obsolescent Risks: With increasing information being exchanged over the internet and expanding footprint of devices, the need to ensure data security will continue to rise. Secure Sockets Layer (SSL) and Public Key Infrastructure (PKI) provide important security by authenticating devices and websites and by encrypting data transported over the internet. Fitch believes SSL and PKI technologies will be continuously enhanced, including adaptation for quantum computing, by building on the existing foundations to ensure full backward compatibility rather than being replaced by new disruptive technologies. Such technological evolution tends to favor incumbents such as DigiCert.
Benefits from New Access Platforms and Applications: While access to internet data has evolved from browsers to mobile applications, and increasingly to Internet of Things, PKI and SSL technologies provide authentication of access devices and secure data across various access platforms. Fitch expects applications of PKI and SSL technologies to continue to grow along with new access platforms and devices. In addition, the company also anticipates future growth opportunities in emerging technologies to enable greater digital security including code signing certificates, document signing certificates and transport layer security (TLS) management.
Browser Lifecycle a High Entry Barrier: CAs need to be embedded into various available access points, which could result in new CAs being incompatible with outdated browsers and devices, as it could take five to 10 years for older access points to be eliminated from the market. Without full compatibility with all existing access points, the value of certificates issued by new CAs diminishes. Fitch believes the inability to be fully compatible is an effective entry barrier.
Recurring Revenue and Strong Profitability: Consistent with historical revenue trends, DigiCert revenue is expected to be 100% subscription-based with over 100% net retention rate. Fitch expects the continuing growth in the underlying demand for CAs should provide the foundation for resilient market growth. This results in a highly predictable and profitable operating profile for the company. Given the concentrated industry structure and high entry barriers, Fitch expects DigiCert to sustain strong profitability.
Ownership Could Limit Deleveraging: DigiCert is majority owned by private equity firms Clearlake and TA Associates. Fitch believes private equity ownership is likely to result in some level of ongoing leverage to optimize ROE. Fitch expects the company to gradually delever through EBITDA growth with periodic dividend recapitalization that could reset financial leverage at elevated levels. This could constrain upside in ratings.
DigiCert Holdings, Inc. is a CA that enables trusted communications between website servers and terminal devices such as browsers and smartphone applications. Increasingly, applications are expanding to include Internet of Things terminal devices. A CA verifies and authenticates the validity of websites and their hosting entities, and facilitates the encryption of data on the internet. CA services are 100% subscription-based and generally recurring in nature. DigiCert is the revenue market share leader in the space after acquiring Symantec's Website Security Services in 2017. The merger combined DigiCert's technology platform with Symantec's large customer base resulting in a robust operating profile. The 'B' IDR reflects Fitch's view that DigiCert's gross leverage is consistent with 'B' rating category peers with solid operating profiles. Despite the strong profitability, Fitch believes the private equity ownership is likely to prioritize ROE optimization over accelerated deleveraging, resulting in gross leverage remaining elevated at approximately 7.0x.
Fitch's ratings on DigiCert reflect its view of the resilience and the predictability of DigiCert's revenue and profitability as a result of the continuing demand for trust over the internet. DigiCert has solidified its strong position in the segment as illustrated through the company's operating profile. Within the broader internet security segment, NortonLifeLock Inc. (BB+/Stable) is also a leader in its space. NortonLifeLock has larger revenue scale and lower financial leverage than DigiCert, but NortonLifeLock operates in a more competitive space and does not have the market dominant position DigiCert has in its niche space as reflected in their respective profit margins.
Fitch's Key Assumptions Within the Rating Case for the Issuer
--Revenue growth in the mid- to high-single-digits;
--EBITDA margins expanding modestly in 2021 then remaining stable;
--Capex at 1.0%-2.0% of revenue;
--Dividend to the sponsors of $600 million between 2022 and 2023 funded with a combination of incremental debt and cash on balance sheet;
--$50 million aggregate acquisitions per year through 2023 funded with internal cash.
KEY RECOVERY RATING ASSUMPTIONS
The recovery analysis assumes that DCert Buyer would be reorganized as a going-concern in bankruptcy rather than liquidated.
In estimating a distressed EV for DigiCert, Fitch assumes a combination of customer churn and margin compression on lower revenue scale in a distressed scenario to result in approximately 10% revenue decline leading to a going concern EBITDA that is approximately 20% lower relative to fiscal 2020 EBITDA. As DigiCert's business model depends on the ability to provide trust supported by its technology infrastructure, customer churn could rise in times of distress.
Fitch applies a 7.0x multiple and a 10% administration claim to arrive at an adjusted EV of $1,512 million. The multiple is higher than the median TMT enterprise value multiple due to the company's strong market positioning that is reflected in its profitability. In the 21st edition of Fitch's Bankruptcy Enterprise Values and Creditor Recoveries case studies, Fitch notes nine past reorganizations in the Technology sector with recovery multiples ranging from 2.6x to 10.8x. DigiCert's operating profile is supportive of a recovery multiple in the upper-bound of this range.
The company's revolving credit facility and first-lien secured debt are rated 'BB-'/'RR2'. The second-lien secured debt is rated 'CCC+'/'RR6'.
Factors that could, individually or collectively, lead to positive rating action/upgrade:
--Fitch's expectation of forward total debt with equity credit/operating EBITDA sustaining below 6.0x or FFO leverage sustaining below 6.5x;
--(Cash from Operations-capex)/total debt with equity credit above 6.5%;
--Stable market position as demonstrated by mid-single-digits revenue growth and stable EBITDA and FCF margins.
Factors that could, individually or collectively, lead to negative rating action/downgrade:
--FFO fixed-charge coverage below 1.5x;
--Fitch's expectation of forward total debt with equity credit/operating EBITDA sustaining above 7.5x or FFO leverage sustaining above 8.0x;
--(Cash from operations-capex)/total debt with equity credit below 3.5%;
--Weakening market position as demonstrated by sustained negative revenue growth and EBITDA and FCF margin erosion.
Best/Worst Case Rating Scenario
International scale credit ratings of Non-Financial Corporate issuers have a best-case rating upgrade scenario (defined as the 99th percentile of rating transitions, measured in a positive direction) of three notches over a three-year rating horizon; and a worst-case rating downgrade scenario (defined as the 99th percentile of rating transitions, measured in a negative direction) of four notches over three years. The complete span of best- and worst-case scenario credit ratings for all rating categories ranges from 'AAA' to 'D'. Best- and worst-case scenario credit ratings are based on historical performance. For more information about the methodology used to determine sector-specific best- and worst-case scenario credit ratings, visit https://www.fitchratings.com/site/re/10111579.
Liquidity and Debt Structure
Adequate Liquidity: The company had $93 million in readily available cash at end of 3Q 2020. Fitch forecasts DigiCert to generate EBITDA near $300 million in 2020, resulting in over $115 million in readily available cash exiting 2020. Additionally, DigiCert's liquidity is supported by an undrawn $125 million revolving facility and a favorable debt maturity schedule, with the nearest term loan maturing in 2026.
Liquidity may potentially be hampered by special dividends to the sponsors. Fitch assumes special dividends of $600 million in 2023; however, liquidity remains solid as DigiCert continues to generate high FCF margins.
Unless otherwise disclosed in this section, the highest level of ESG credit relevance is a score of '3' - 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.
For more information on Fitch's ESG Relevance Scores, visit www.fitchratings.com/esg.
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.
DCert Buyer, Inc.; Long Term Issuer Default Rating; Affirmed; B; Rating Outlook Stable
----Senior Secured 2nd Lien; Long Term Rating; Publish; CCC+
----senior secured; Long Term Rating; Affirmed; BB-
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