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Fitch Assigns Gigamon First-Time 'B' IDR; Outlook Stable
November 30, 2017 / 10:17 PM / 13 days ago

Fitch Assigns Gigamon First-Time 'B' IDR; Outlook Stable

(The following statement was released by the rating agency) NEW YORK, November 30 (Fitch) Fitch Ratings has assigned a first-time 'B' Long-Term Issuer Default Rating (IDR) to Gigamon, Inc. The Rating Outlook is Stable. Fitch has also assigned first-time ratings to the $50 million first-lien secured revolving credit facility (RCF) and $400 million first-lien secured term loan of 'BB-'/'RR2'; and a 'CCC+'/'RR6' rating to the $150 million second-lien secured term loan. The proceeds, along with equity contribution from Elliott Management, a multi-strategy private investment firm, and cash on the balance sheet will be used to fund the $1.6 billion acquisition that was announced on Oct. 26, 2017. Elliott's investment is being led by its private equity affiliate, Evergreen Coast Capital. A complete list of rating actions follows at the end of this release. Fitch's rating actions affect $600 million total debt, including the $50 million RCF. KEY RATING DRIVERS Market Leader: Gigamon is a market leader in the Network Packet Broker (NPB) segment with over 35% market share, more than the combined market share of the next two largest competitors. Since 2014, Gigamon's market position has strengthened, with market share rising by approximately 10 percentage points. Fitch believes the growing market share demonstrates Gigamon's focus and expertise in the NPB segment. Limited Revenue Scale: Given the niche nature of NPB, Gigamon's revenue scale is small relative to other IT networking and security peers. This could lead to greater volatility in revenues and profits; but, given the niche nature of the segment, Fitch does not anticipate meaningful increase in scale through our forecast period. Despite the small revenue scale, Gigamon has historically maintained high renewal rates, which should provide greater revenue visibility for the company. Rising network complexity supports secular growth: Increasing enterprise network complexity and data speeds are driving demand for capabilities that enable full network traffic visibility. Enterprise migration to hybrid cloud is adding additional complexity in full visibility into the end-to-end network. Gigamon's ability to provide visibility across both on-premise networks and cloud infrastructure offers the capabilities required by its enterprise customers. Gigamon partners with network infrastructure providers including network equipment, cloud services, and network monitoring tools; the broad set of partnerships offer compatibilities in wide-ranging enterprise network environments. Susceptible to Industry Cyclicality: Gigamon is susceptible to IT security industry cycles as demonstrated by its weak 2017 revenue growth. Fitch believes the weakness may have been a result of extraordinarily strong growth in the previous two years coinciding with heightened IT security awareness that propelled overall industry growth. We view the current industry environment as normal and a more realistic base for assessing future growth potential. Nevertheless, Gigamon's narrowly focused product expertise will continue to expose the company to industry cyclicality. High Leverage: Pro forma for cost savings and the leveraged buyout by Evergreen Coast Capital Corp, gross leverage will be at 6.8x in 2018, in line with its peers in the 'B' rating category. In addition to the debt issuance, affiliates of Evergreen will be making an $839 million equity contribution; Fitch believes this demonstrates Evergreen's commitment and confidence in the industry and Gigamon. DERIVATION SUMMARY Fitch's ratings on Gigamon are supported by the company's leading position in the NPB segment with over 35% market share, more than the combined market share of the next two largest competitors; NPB provides network traffic visibility for enterprises for management of IT networks and security. While Fitch expects the increasing complexity of enterprise networks will serve as the underlying demand driver for the segment, the niche nature of the NPB segment limits upside for Gigamon's revenue scale. Gigamon's focus on NPB technologies and products, and the relatively small revenue scale expose the company to the industry cyclicality that is inherent to the IT security industry. Despite the cyclicality, Fitch believes Gigamon's EBITDA margins will remain relatively stable given its industry leadership. The announced $1.6 billion acquisition by Evergreen will be financed with $550 million in term loans, equity contribution from affiliates of Evergreen, and cash on the balance sheet at closing. Fitch forecasts Gigamon's gross leverage in 2018 to be 6.8x, gradually declining to approximately 5x by 2020. Gigamon's industry leadership, revenue scale, and leverage profile are consistent with the 'B' rating category. KEY ASSUMPTIONS Fitch's key assumptions within our rating case for the issuer include: --Revenue growth in the high single digits; --EBITDA margins approximately 25% after completion of cost reduction measures; --Capex at approximately 3% of revenue; --No dividend payment through our forecast period; --FCF generated used for debt repayment. --Recovery analysis assumes a going-concern EBITDA that is approximately 15% lower relative to LTM EBITDA assuming a combination of revenue decline and margin compression in a distress scenario when enterprise customers may elect to move to an alternate supplier due to the uncertainties surrounding a distressed supplier; the reduced scale would result in weaker margins. Fitch applies a 6.5x multiple to arrive at an enterprise value (EV) of $445 million. The multiple is higher than the median TMT EV multiple, but is in line with other similar companies that exhibit strong FCF characteristics. In thirteenth edition of Bankruptcy Enterprise Values and Creditor Recoveries case study, Fitch notes seven past reorganizations in the Technology sector, where the median recovery multiple was 4.9x. Of these companies, only two were in the software sub-sector with high recurring revenue characteristics: Allen Systems Group, Inc. and Aspect Software Parent, Inc., which received recovery multiples of 8.4x and 5.5x, respectively. Gigamon's operating profile is supportive of a recovery multiple in the middle of this range. --Fitch assumes a fully drawn revolver in its recovery analysis. RATING SENSITIVITIES Future Developments That May, Individually or Collectively, Lead to Positive Rating Action: --Gross leverage sustained below 5.5x; --FCF margins sustained above 10%; --Organic revenue growth sustained near or above 5%. Future Developments That May, Individually or Collectively, Lead to Negative Rating Action: --Gross leverage sustained above 7x; --FCF margins sustained below 5%; --Organic revenue growth sustained near or below 0%. LIQUIDITY Fitch expects the company's liquidity to remain solid over the forecast period. Pro forma for the transaction, liquidity will be supported by internal FCF generation, a new $50 million RCF, and $25 million of readily available cash and cash equivalents post-closing. Gigamon's FCF is supported by normalized EBITDA margins of approximately 25%; Fitch estimates FCF margins of nearly 10% after the completion of expected cost reductions resulting in over $35 million of annual FCF generation. FULL LIST OF RATING ACTIONS Fitch has assigned the following ratings: Gigamon, Inc. --Long-Term Issuer Default Rating 'B'; Outlook Stable; --$50 million first-lien secured revolving credit facility at 'BB-/RR2'; --$400 million first-lien secured term loan at 'BB-/RR2'; --$150 million second-lien secured term loan at 'CCC+/RR6'. Contact: Primary Analyst Alen Lin Senior Director +1 312-368-5471 Fitch Ratings, Inc. 70 West Madison St. Chicago, IL 60602 Secondary Analyst Allen Dilallo Analyst +1 312-368-3337 Committee Chairperson David Peterson Senior Director +1 312-368-3177 Media Relations: Alyssa Castelli, New York, Tel: +1 (212) 908 0540, Email: alyssa.castelli@fitchratings.com; Benjamin Rippey, New York, Tel: +1 646 582 4588, Email: benjamin.rippey@fitchratings.com. 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