Key Takeaways
- We expect slower momentum for the global business services sector into 2023, in step with weakening global GDP growth, persistently high inflation, sharply rising interest rates, and a tight labor market.
- Across subsectors, we expect mixed financial outcomes with facility maintenance and distribution services the most vulnerable. Software, information services, and human capital management sectors will be more resilient.
- We expect negative cash flow for 9% of issuers we rate in 2022 and 2023 as labor shortages remain elevated and weaker credits struggle to manage rising interest costs and wage inflation.
- Apart from 8% of companies we rate in the 'CCC' category, refinancing risk appears manageable as most do not have material debt maturities over the next two years.
- The rating outlook for most of the sector remains stable for now, due to ongoing demand for outsourcing noncore competencies, automation/digital transformation, data/analytics, and our view that operating flexibility will allow it to navigate these challenges.
Higher Recession Risks And Rising Interest Rates Will Slow Deleveraging Prospects For Several Companies
As economic conditions worsen, we have generally lowered our forecasts for global GDP growth to 3.1% this year and 2.4% into 2023 and raised our inflation expectation. Risks around this baseline remain on the downside. Central banks are aggressively raising rates to fight inflation, and our belief is waning that such actions can avoid a sharp downturn. We now expect a mild U.S. recession in 2023, and a 50% chance for the eurozone. (See "Economic Research: Global Macro Update: Many Routes To The Bottom," published Sept. 28, 2022).
Higher interest rates for most issuers, ensuing inflationary challenges, rising wages for labor-intensive operations, high gas prices for distributors, and cyber risk for some information, payment, and technology service providers will remain key risks over the next 12 months into 2023. This will slow the pace of deleveraging assumed in our ratings (chart 1 and table 1).
Higher benchmark rates and normalization of spreads will likely end the historic run of favorable financing conditions. A rapid and volatile market repricing--affecting debt-servicing costs and funding access--would hurt lower-rated borrowers in particular. While secondary market spreads on U.S. corporate debt for 180 companies we rate in the sector (77% are rated 'B' or below) remain historically narrow, they are widening steadily.
Despite Passing Through Higher Costs, Ratings Cushion Will Narrow And Downgrades Could Increase
Within North America, only 8% of companies we rate in the sector have positive outlooks, versus 13% with negative outlooks, slightly lower than U.S. corporates as a whole at about 16%.
In 2022, we have taken 29 negative rating/outlook actions and 26 positive in North America. This trend has recently shifted to a negative bias, and we expect ratings cushion for numerous issuers (table 1) to deteriorate faster relative to their respective subsector (table 2 and 3) due to company/industry specific risks and/or a failed stress test by generating sustained negative free operating cash flow in 2023. Our stressed-case assumptions incorporate a 10% downside to EBITDA relative to our base case in addition to average benchmark rates approaching 4% by the end of 2023. In our stressed scenario, we expect persistent high inflation and supply chain and labor shortages will lead to further tightening monetary policy by the Federal Reserve (see "Global Credit Conditions Downside Scenario: Recession Risks Deepen", Oct. 12, 2022). This will reduce discretionary spending, raise cost of capital and ultimately pressure companies' profitability and free operating cash flow. Because of higher interest rates and potentially lower EBITDA relative to our prior base case, we expect deterioration in credit quality and some refinancing risk, particularly in the 'B' (68% of the portfolio) and 'CCC' (8%) categories.
Within Europe, the Middle East, and Africa, 5% of companies we rate in the sector have positive outlooks, versus only 1% with negative outlooks. Year-to-date rating actions have been more positive, suggesting that recovery from COVID-19 has prevailed over recession risks.
Table 1
Global Business And Technology Services Issuers At Risk Of Downgrade Or Outlook Revision | |||
---|---|---|---|
Company | Long-term rating/outlook | Subsector | Comments |
4L Topco Corp. |
CCC/Negative/-- | Commercial services and supplies | Elevated refinancing risk with its revolver maturing in August 2023 could lead to restructuring or debt exchange that we view as tantamount to a default. |
A&V Holdings Holdco LLC |
B/Negative/-- | Outsourced business and IT services | Risk that supply chain issues worsen, leading to continued cash flow deficits or leverage rising above 6x. |
ABC Financial Intermediate LLC |
B-/Stable/-- | Software | Refinancing risk related to an upcoming revolving credit facility maturity in January 2023, coupled with thin free cash flow generation as a result of investments in the business that could pressure liquidity. |
Allied Universal Topco LLC |
B/Stable/-- | Security and safety services | Sharp increases in nonbilled overtime wages and employee turnover is driving lower gross margins and cash flow deficits. |
Anywhere Real Estate Group LLC |
BB-/Stable/-- | Consulting and professional services | Leverage peaking in the mid-4x area at the end of 2022, relative to our downside trigger of 4.5x, amid a weaker outlook for housing. However, the industry remains highly volitile. |
APX Group Holdings Inc. |
B-/Stable/-- | Security and safety services | Weaker economic conditions such as high inflation and lower consumer spending that could affect overall subscriber growth. |
Armorica Lux S.a.r.l. (idverde) |
B-/Negative/-- | Facility maintenance | High costs and slower-than-expected recovery is raising leverage above 10x and eroding liquidity. |
Atlas CC Acquisition Corp. |
B-/Stable/-- | Outsourced business and IT services | High leverage over 9x with minimal free operating cash flow (FOCF). Significant execution risk around the achievement of identified cost savings amid higher inventories, rising labor costs, and higher interest expense given the significant debt burden. |
Broadridge Financial Solutions Inc. |
BBB+/Negative/A-2 | Information services | Risk that high investments in new wealth platform will persist, keeping leverage elevated above our 2x downgrade trigger and FOCF to debt below 25%. |
Cobra Holdings Inc. |
B-/Stable/-- | Software | Lower software bookings and ongoing integration resulting in negative FOCF and revolver borrowings. |
CommerceHub Inc. |
B-/Stable/-- | Software | Sizable floating debt burden with an interest rate cap maturing in the first quarter of 2023, along with exposure to a slowdown in consumer spending in a recessionary environment. |
Conservice Group Holdings LLC |
B-/Stable/-- | Software | High leverage (above 8x) and minimal FOCF to debt as a result of elevated interest expense; increased risk of EBITDA to cash interest coverage declining toward the low 1x area. |
ConvergeOne Holdings Inc. |
B-/Negative/-- | Outsourced business and IT services | Refinancing risk related to its asset-based lending (ABL) facility and supply chain constraints could keep leverage above 10x and pressure liquidity. |
CoreLogic Inc. |
B-/Stable/-- | Information services | Exposure to the cyclicality in the mortgage market and rising interest rates, thus downside from greater-than-expected declines in mortgage originations and/or lower profit margins. |
EagleView Technology Corp. |
B-/Negative/-- | Information services | High leverage (over 9x) and negative cash flows that may threaten liquidity; refinancing risk (revolver matures in August 2023), especially if restaurant closures are high. |
Exela Technologies Inc. |
CCC-/Negative/-- | Outsourced business and IT services | Comprehensive restructuring likely given material liquidity deficit, absent a capital infusion. |
Grubhub Inc. |
CCC+/Developing/-- | Software | Mild recession conditions increase the risk of underperformance, and parent JET may be unwilling or unable to provide financial support to cover Grubhub's cash flow deficits. |
GT Polaris |
B-/Stable/-- | Outsourced business and IT services | Higher interest expense and lower assets under management fees are pressuring cash flows. Downgrade could result from further interest rate increases or more severe equity market declines. |
Halo Buyer Inc. |
CCC+/Negative/-- | Distribution services | Ongoing cash flow deficits that narrow liquidity cushion, which could add to difficulties refinancing its revolving credit facility due in June 2023 in a timely manner. |
KCIBT Holdings L.P. |
CCC/Negative/-- | Commercial services and supplies | Given mild recessionary conditions, higher risk of a material liquidity shortfall and a missed interest payment or distressed debt restructuring if travel volumes do not continue to recover. |
Lereta LLC |
B-/Negative/-- | Information services | Exposure to the cyclicality in the mortgage market and rising interest rates, thus downside from greater-than-expected declines in mortgage originations and/or lower profit margins. |
Likewize Corp. |
B-/Positive/-- | Outsourced business and IT services | Risk that restructuring costs remain elevated and leverage stays above our 5x upside threshold. |
Monitronics International Inc. |
CCC+/Negative/-- | Security and safety services | Ongoing risks related to covenant violation, payment default, or distressed exchange in the subsequent 6-12 months. |
Optiv Inc. |
B-/Stable/-- | Outsourced business and IT services | Refinancing risk related to its $200 million ABL and $800 million first-lien term loan that mature in February 2024. |
Restaurant Technologies Inc. |
B/Negative/-- | Distribution services | Higher risk that leverage remains higher than 6.5x or revolver borrowing exceeds 35% of the commitment due to ongoing delays in new installations and elevated capital expenditure requirements. |
Signal Parent Inc. |
B-/Stable/-- | Facility maintenance | Risk of greater-than-expected declines in single-family construction starts, lower profitability due to the inability to manage costs. |
TKC Holdings Inc. |
B-/Stable/-- | Distribution services | Sizable floating debt burden along with inflation affeting margins, resulting in thin free cash flow generation. |
WeWork Cos. LLC |
CCC+/Negative/-- | Facility maintenance | Ongoing FOCF challenges as the return-to-work landscape still has meaningful uncertainty that will affect long-term prospects. |
Chart 1
Chart 2
Chart 3
Chart 4
Key Sector Assumptions For 2022-2023
Demand remains steady within the business and technology services sector, and we expect it to report mid-single-digit percentage organic revenue growth in 2022 aided by increased market penetration, stable retention rates, cross-selling, and higher pricing for many companies. Companies will mostly pass inflationary cost pressures to end customers by year-end, although intrayear earnings volatility is likely as price increases are gradually reset. We expect steady margins for several companies given the digitalization of their workflow/services and lower staffing requirements, partially offset by inflationary pressure. Several issuers also can quickly reduce idle capacity in their labor forces, which aids near-term earnings visibility. A few issuers, especially in the U.S., have also cut capital expenditure modestly to adjust for the lower backlogs or order delays. Lower-rated companies have sharply cut mergers and acquisitions (M&A), although more highly rated companies remain active. This also limits upside for several issuers' competitive positions with niches in highly fragmented sectors because they depend on inorganic growth to expand their breadth of offerings and geographic presence. Our stressed-case assumptions incorporate a 10% downside to EBITDA relative to our base case in addition to average benchmark rates approaching 4% by the end of 2023.
Chart 5
Global Outlook And Trends Are Mixed For Some Subsectors
The overall rating outlook for the sector remains stable (albeit with an increasing negative bias) due to strong demand for outsourcing noncore competencies, automation/digital transformation, and data/analytics. As global GDP weakens and the U.S. enters a recession, we believe companies that generate high-quality revenues will be best positioned to maintain credit quality.
Recently, we reassessed the revenues for each company by analyzing the mission-critical nature of service, revenue type (transaction versus contracted), renewal rates, and diversification (customer and end market). Combined with our assessment of inflation and labor market risks, we believe distributors and facilities maintenance providers are most vulnerable to downside risks. Conversely, we believe the impact from these developments on software, information services, security and safety, and human capital management will be minimal. Lastly, several issuers in the 'BB-' and 'B+' categories enter the U.S. recession with low leverage and higher free operating cash flow (FOCF) to debt than the corporate average.
Table 2
Business And Technology Services Subsector Overview | |||||
---|---|---|---|---|---|
--Exposure-- | --Financial impact-- | ||||
Sector | Recurring revenue | Inflation | Tight labor market | Inflation | Tight labor market |
Distribution services | Low | High | High | Medium | Medium |
Facility maintenance | Mix | High | High | Medium | Medium |
Commercial services and supplies | Mix | High | Medium | Low/medium | Medium |
Human capital management | Mix | Low | High | Low | Low/positive |
Consulting and professional services | Medium | Medium | Medium | Mix | Low/medium |
Outsourced business and IT services | Low/medium | Medium | Medium | Low/medium | Medium |
Security and safety services | High/medium | Medium | Medium/high | Low/medium | Medium |
Information services | High/medium | Low | Low | Low | Low |
Payment services | Low/medium | Low | Low | Low | Low |
Software | High/medium | Low | Low | Low | Low |
Insurance services | High/medium | Medium | Medium | Low | Low |
Table 3
Business And Technology Services Credit Metric Trends By Subsector | ||||||||||||||||||||||
---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
--Revenue growth (%)-- | --EBITDA margin (%)-- | --Leverage (x)-- | --FOCF/debt (%)-- | |||||||||||||||||||
Sector | Projected 2023 | Previous estimate 2022 | Current estimate 2022 | Projected 2023 | Previous estimate 2022 | Current estimate 2022 | Projected 2023 | Previous estimate 2022 | Current estimate 2022 | Projected 2023 | ||||||||||||
Distribution services | 4.0% | 13.7% | 12.4% | 12.4% | 6.9 | 6.1 | 5.6 | 2.8% | 3.4% | 5.0% | ||||||||||||
Facility maintenance | 5.5% | 16.7% | 13.7% | 13.7% | 6.3 | 6.4 | 5.7 | 7.8% | 4.8% | 5.7% | ||||||||||||
Commercial services and supplies | 4.5% | 21.1% | 21.6% | 23.5% | 5.8 | 5.9 | 5.6 | 4.5% | 3.2% | 3.8% | ||||||||||||
Human capital management | 7.0% | 28.5% | 26.6% | 27.6% | 5.0 | 5.1 | 4.6 | 11.0% | 9.0% | 10.3% | ||||||||||||
Consulting and professional services | 4.1% | 18.2% | 19.8% | 18.8% | 5.3 | 4.3 | 4.0 | 7.8% | 7.4% | 8.9% | ||||||||||||
Outsourced business and IT services | 5.0% | 20.0% | 16.1% | 16.5% | 6.3 | 6.0 | 5.6 | 6.8% | 3.7% | 5.8% | ||||||||||||
Security and safety services | 5.4% | 25.4% | 21.5% | 21.2% | 4.9 | 4.9 | 4.7 | 5.1% | 5.1% | 4.6% | ||||||||||||
Information services | 5.8% | 40.2% | 40.2% | 39.8% | 3.0 | 2.8 | 2.8 | 16.1% | 22.3% | 22.8% | ||||||||||||
Payment services | 6.1% | 33.2% | 33.1% | 33.9% | 4.0 | 4.6 | 4.2 | 12.7% | 10.4% | 11.0% | ||||||||||||
Software | 9.1% | 30.7% | 31.4% | 32.5% | 7.8 | 8.6 | 7.4 | 5.1% | 6.0% | 9.4% | ||||||||||||
Insurance services | 9.0% | 27.5% | 27.7% | 27.7% | 6.5 | 6.4 | 6.2 | 6.5% | 6.5% | 7.0% | ||||||||||||
FOCF--Free operating cash flow. IT--Information technology. |
Distribution services
This subsector serves many end markets, with retail, energy, and discretionary-like segments hardest hit by the COVID-19 pandemic and most vulnerable to weakening GDP. Rising gas prices and wage inflation for distributors could impair near-term operating performance. For distributors tied to promotional products such as CB Poly Investments LLC and Halo Buyer Inc., we expect operating performance to remain challenged as enterprise marketing spending declines and supply chain disruption hinder growth prospects. Given slowing growth in the quick-service and casual dining restaurant segments, we expect companies such as Double Eagle Buyer Inc. (d/b/a Restaurant Technologies) and BCPE Empire Holdings Inc. (d/b/a Imperial Dade) to face additional pressure in strengthening organic revenue growth in 2023, with higher reliance on new customer wins, upselling services, and price increases. We expect distributors with well-balanced end-market and geographic exposure such as Bunzl PLC to be resilient to the macroeconomic downturn and take advantage of clients' increasing focus on hygiene and sustainability.
Facility maintenance
This subsector includes companies providing heating, ventilation, and air conditioning (HVAC), insulation, and other technical services. We expect recession risks to pressure revenues and earnings for building materials contractors into 2023 as the housing market cools and they run through record high backlogs. Homebuilding contractors continue to benefit from contracts signed prior to mortgage rates rising. We believe the number of homes under installation plus permitted starts suggests about 12 months of backlog at the current pace of completions. However, we expect revenue softness sooner because homebuilders may put projects on hold in uncertain macroeconomic times ("How U.S. Building Material Contractors And Mortgage Servicers Are Navigating Market Volatility", published Oct. 19, 2022).
As a result, for national scale players including Installed Building Products Inc. and TopBuild Corp., we expect adequate rating cushion to weather modest near-term pressure on residential construction demand as long-term fundamentals support steady operating performance in 2023. We expect working capital usage even as growth rates diminish in 2023. For instance, TopBuild also holds greater-than-typical inventory partly because the supply of fiberglass, the most common type of insulation, remains constrained. Performance of some companies with lower ratings, such as Legence Holdings LLC (formerly d/b/a Therma) and Saber Intermediate Corp. (d/b/a Service Logic), has been resilient. We expect strong top-line growth in 2022 due to large acquisitions and ongoing demand for commercial air filtration, HVAC, and refrigeration services across end markets including mission-critical facilities (such as hospital, government, and education buildings). Conversely, operators such as CoolSys Inc. and Thermostat Purchaser III Inc. (d/b/a PremiStar, formerly Reedy) have already reported deteriorating EBITDA margins and likely to remain depressed through 2023 due to supply chain disruptions and high labor and fuel costs into 2023.
Though a large portion of the demand is nondiscretionary over the next two years, we expect project pipelines to remain vulnerable to customers postponing large-ticket repairs such as roof replacements with smaller repair jobs. New construction projects will decelerate to the mid-single-digit percentage in 2023 and nonresidential and residential investment will likely drop by double digits as economic uncertainty and rising interest rates weigh on demand and elongated building cycles slow the pace of construction. Delaying maintenance work often leads to other issues (leaks, breaks, and wear and tear) that can result in more complex job orders, potentially aiding the pace of recovery in 2024.
Commercial services and supply chain
We expect the structural shift in demand for office services and corporate employee relocation since the height of the pandemic to be ongoing headwinds. However, for companies such as Staples Inc. and Sirva Inc., we expect a sustained recovery supported by market share gains and cost-saving initiatives. Cleaning and laundry facilities management services, which are largely nondiscretionary, have shifted investments to digitize machines from scale-driven M&A. While we anticipate wage and commodity inflation to represent near-term pressure on earnings for laundry and linen rental service providers Spin Holdco Inc. (d/b/a CSC ServiceWorks), WASH Multifamily Acquisition Inc., and Elis S.A., these companies can leverage their procurement efficiency, which stems from their sufficiently large scale to offset these pressures as they continue to increase revenues.
The outsourcing trend will continue to support cleaning and integrated facility services providers' activity when cost savings and hygiene are an increasing point of focus. Nondiscretionary service providers such as Belfor Holdings Inc. and to a lesser extent W3 Topco LLC (d/b/a Total Safety) should benefit from a stable operating profile despite rising input costs, as most of the work is conducted on a cost-plus-markup basis. Information storage providers such as Iron Mountain Inc. and Access CIG LLC should benefit from relatively stable organic volumes in 2022, with strong retention rates and growth in digital solutions and secured information technology asset disposal that has helped exceed service revenues compared to pre-pandemic levels without a full recovery of traditional services (shredding, collection, etc.). We believe these companies will increasingly rely on acquisitions toward industry consolidation along with price increases and market share wins in their traditional businesses. They will also continue to invest in digital record management capabilities to position themselves as the industry shifts. Food service providers present a mixed picture. Although they all benefit from on-site volume recovery since the worst of COVID-19, ability to pass through food and wage cost inflation differs across the industry, especially with country-specific contract features. Margin pressures may be more moderate for global players such as Sodexo S.A. or Compass Group PLC than for Elior Group S.A., which generates about 45% of its revenues in France.
Human capital management
These providers are particularly sensitive to decreases in economic activity and employment. The U.S. labor market remains healthy, however recent August job openings and layoffs indicate the tight market is beginning to loosen. With the federal funds rate moving from near zero in early 2022 to over 4% by early 2023, we expect wage inflation to normalize only by the second quarter of 2024. Our outlook of stable to positive for companies in the subsector reflects our view that the tight labor market will on balance lift operating performance and credit metrics. Human capital management includes payroll and human resources software vendors, benefits administrators, background screening providers, and professional employee organizations that offer fully outsourced human resources services to small- to mid-size businesses.
Most industry revenue models are directly related to payroll volumes processed or to customers' employee counts, which positions industry sales to benefit from rising wages and declining unemployment rates. Job opening estimates indicate labor demand remains elevated. We believe this will further accelerate hiring and the digital transformation of human resources to attract, reward, and retain employees. Global supply chain constraints and raw material inflation are not likely to affect the sector, although a modest rise in operating expenses in step with higher labor costs could offset revenue growth trends.
Consulting and professional services
We expect this subset of companies to maintain stable client retention and steady creditworthiness in 2022 following robust performance in 2021. Revenue has broadly increased, including companies with high exposure to increasing regulatory requirements supporting the adoption of energy-efficiency programs, for instance CRCI Longhorn Holdings Inc. (d/b/a CLEAResult). However, execution challenges at KAMC Holdings Inc. (d/b/a Franklin Energy) indicate the ability to pass on increasing costs to customers could get challenging. Franklin's energy-efficiency program revenue, which spans both the services and products segments, has some contracts based on fixed fees or performance with limited price escalators. As a result, we expect profitability challenges to persist for the remainder of 2022 into 2023 despite permanent cost cuts during the pandemic.
Following record-breaking volumes in 2021, residential real estate-based service providers such as Anywhere Real Estate Group LLC and RE/MAX LLC face a housing recession given high mortgage rates and price increases in 2022. Similarly, volume growth could slow for fund administration and corporate services providers such as TMF Sapphire Midco B.V., but a high share of recurring services limits downside risk. Finally, we expect low impact from a potential recession on audit, tax, and accounting services companies due to their nondiscretionary nature. Demand for professional consulting services should be supported by countercyclical segments such as bankruptcy and restructuring consulting services.
Outsourced business and information technology services
Spending is highly correlated to global GDP, so a severe and lengthy recession in the U.S. could hurt tech companies' performance, more so in hardware than software services. Slower enterprise spending, potentially in reduced data center investments, would be a signal for the entire sector. A shallow recession, however, may only lead to delayed--rather than cancelled--purchases. Large projects, such as enterprise resource planning, software implementations, and consulting engagements remain solid in 2021 and 2022 after delays in 2022. We expect large information technology services vendors such as Accenture PLC to report mid-single-digit percentage growth in 2023 aided by strength in these areas. Similarly, after demonstrating solid resilience through COVID-19, outsourced customer relationship management companies such as Teleperformance SE have enjoyed strong commercial momentum through first half of 2022. For all these businesses, a significant backlog reflects a heightened need for digital transformation projects (that tend to be faster expanding and higher margin) and a lack of labor supply onshore and offshore. We expect this trend to continue through 2023 and some pressure from small and midsize business clients for which the sales cycle might get elongated as they enter recessionary conditions.
Because the pandemic highlighted the importance of remote work, businesses found they needed to make structural changes to enable a hybrid work environment. This led to more work orders and engagement with information technology vendors to redesign operating environments, optimize usage of private and public cloud infrastructure, application modernization, and automation. We expect these projects to span multiple phases because implementation periods tend to be long and involve the development and modernization of front-end applications and back-end platforms across areas such as customer engagement, cloud, artificial intelligence, big data, analytics, and cyber security. Additionally, heightened cyber security threats and awareness will likely increase information technology budgets. Revenues increased for Escape Velocity Holdings Inc. (d/b/a Trace3), Tenable Holdings Inc., and Optiv Inc. on these trends. However, over the last 12 months, a dearth of certain components has delayed their ability to complete jobs. Since firms typically cannot bill the customer and collect cash until the job is finished, this is temporarily hurting free cash flow. Looming risks in 2023 will be their ability to navigate labor supply challenges while utilization, attrition, and wages are high.
Information services/software/payment
The landscape for this subsector is stable to positive with predictable revenues and further EBITDA margin expansion opportunities. Credit risk factors include balancing the use of free cash flow toward debt reduction and shareholder returns, which have accelerated. Large providers including Fidelity National Information Services Inc., Fiserv Inc., Global Payments Inc., MSCI Inc., and Experian Finance PLC will continue to benefit from solid recurring revenue mix and operating leverage. The ratings on most of these issuers hinges mostly on financial policy and the commitment to keeping leverage at or below 3x while they pursue acquisitions and/or buybacks. We also expect payment processors to continue investing in omnipayment software to service their large network of merchants, enterprises, and financial institutions through both organic and inorganic means.
Companies with significant revenues tied to mortgage servicing face pressure over the next 12-18 months amid rising interest rates. Consumer credit bureaus such as Fair Isaac Corp. (FICO), Equifax Inc., and TransUnion capitalize on large datasets and analytics that support effective decision-making. They have executed well in recent years. They have products that are well integrated into their clients' workflow systems, and we continue to expect strong organic growth in this sector into 2023. For instance, Equifax's year-to-date non-mortgage verticals (including U.S. verification for talent, government, and consumer lending) have increased revenues in double-digit percentages. We expect this to continue into 2023. We expect FICO's entrenched scores business to rise 10%-15% due to future price increases targeted toward insurance, health care, and international end markets. Nevertheless, M&A activity has picked up, and debt-funded acquisitions (often with EBITDA multiples well above 20x) will likely slow the pace of deleveraging. We expect software service providers such as Verint Systems Inc. to report solid revenue and gross profit growth with cloud-based solutions adoption. This should support an acquisitive growth strategy funded with cash and debt to compete against larger and faster-expanding competitors.
Insurance services
This subsector includes companies that predominantly service the insurance sector, including brokers, claims and warranty administrators, and insurance cost containment providers. Revenues across the portfolio are generally tied to underlying insured exposure trends, which in most lines such as commercial property and casualty insurance continues to benefit from favorable insurance pricing as carriers seek rates to contend with a rising loss cost trend. In addition to keeping insurance pricing firm, inflation increases insured values on various lines, which ultimately translates to higher commission and revenues for brokers. We believe the benefits of favorable insurance pricing and inflation will more than outweigh any top-line pressures related to an economic slowdown, particularly given that most insurance service revenue streams are nondiscretionary (consumers are often required to purchase insurance by law, boards, and counterparties, etc.). Accordingly, we expect healthy organic revenue growth trends across most of the space over the next year, supplemented by a robust M&A pipeline that has continued given market fragmentation and strong demand for insurance service-related assets.
In terms of bottom-line performance, a tight labor market and wage pressures in a largely people-driven business, in addition to continued creep-back in travel and entertainment expenses as the pandemic subsided, create modest expense headwinds. But a large variable expense component (as most broker producers are compensated on the revenue they generate), continued operating leverage, and efficiency enhancements will likely result in a relatively stable margin trend over the next year.
Trends of course will vary by company and subsector. We believe insurance brokers, the largest subset among sector companies we rate, will fare the best given the generally stickiest revenue streams, a factor that has resulted in a history of generally solid performance during prior downturns. Conversely, the greatest pressure will likely be felt by warranty administrators, which tend to have more concentration in discretionary product with greater ties to consumer spending and supply chain disruption. Notwithstanding, favorable attachment points, more focus by sales representatives on warranty sales, and diversification into ancillary products somewhat mitigate the macroeconomic headwinds.
Security and safety services
This subsector includes private security, cash-in-transit, alarm monitoring, and prison operators. We expect the global security installation and servicing market to expand faster than GDP, in the 5% area. In our base case, U.S. labor and global supply chain risks are unlikely to significantly affect gross margins in 2022, however we expect this to be a larger issue for companies such as Allied Universal Topco LLC. Being the third-largest employer in the U.S., the tight labor market has hurt employee turnover and increased nonbillable overtime wages after benefiting in 2020 from COVID-19 screening services, lower wage pressures, and higher unemployment rates.
Additionally, several factors supported organic growth over the past two years for some segments. For example, residential alarm providers benefited from lower attrition (as move-related disconnections declined), fiscal stimulus, the support of residential and commercial owners in paying their ongoing monitoring fees, and the increased deurbanization and work-from-home trends. These companies, which typically generate relatively low FOCF due to the large capital expenditure needed for customer acquisition, also recorded better cash flow dynamics as the industry adopted third-party financing models. For instance, APX Group Holdings Inc. (a/k/a Vivint) generated positive free cash flow in recent periods. We expect this to continue in 2022 as it approaches scale required to drive sustainable cash flows despite annual customer attrition. On the other hand, Monitronics International Inc. (d/b/a Brinks Home Security) continues to face liquidity risks with nearing debt maturities. Some of these companies will likely pursue aggressive debt-funded M&A that elevate leverage and constrain FOCF. Securitas AB increased leverage above 4x in 2022 with its debt-funded acquisition of security business Stanley, triggering a downgrade to 'BBB-'.
Appendix
Table 4
North America Speculative-Grade Business And Technology Services Negative Rating Actions | ||||||||||||
---|---|---|---|---|---|---|---|---|---|---|---|---|
2022 to date | ||||||||||||
Date | Company | Subsector | To | From | Rationale | |||||||
10/14/2022 |
Finastra Ltd. |
Payment services | CCC+/Negative/-- | B-/Stable/-- | Tight liquidity and cash flow, not much flexibility left in cost structure and upcoming maturities. | |||||||
10/10/2022 |
Tegra118 Wealth Solutions Inc. |
Software | B-/Negative/-- | B/Stable/-- | Tight liquidity, higher labor costs, rising interest rate environment. investment/integration spending in affiliates burdening cash flow. | |||||||
10/6/2022 |
Inmar Inc. |
Outsourced business and IT services | B-/Negative/-- | B-/Stable/-- | Refinancing risk, adverse interest rate environment, weak cash flow generation. | |||||||
10/5/2022 |
Rackspace Technology Global Inc. |
Outsourced business and IT services | B-/Stable/-- | B/Stable/-- | Slowing IT spending, increased leverage, intense competition in cloud services market. | |||||||
9/16/2022 |
SuperMoose Newco Inc. |
Software | CCC+/Negative/-- | CCC+/Stable/-- | Tight liquidity, slow adoption of new software by customer base. | |||||||
9/15/2022 |
American Public Education Inc. |
Education services | B+/Negative/-- | B+/Stable/-- | Staffing constraints coupled with weakening enrollments trends, which are affecting operating performance. | |||||||
8/19/2022 |
The GEO Group Inc. |
Security and saftey services | SD/-- | CC/Negative/-- | Distressed debt exchange, ESG risk. | |||||||
8/9/2022 |
Output Services Group Inc. |
Outsourced business and IT services | D/NM/-- | CC/Negative/-- | Chapter 11 bankruptcy, rising labor/input costs in the U.S., secular shift to digital services in U.K. | |||||||
7/22/2022 |
Lereta LLC |
Information services | B-/Negative/-- | B-/Stable/-- | Expected fewer mortgage originations, higher interest rates, recession risk. | |||||||
7/21/2022 |
KAMC Holdings Inc. |
Consulting and professional services | CCC+/Negative/-- | B-/Negative/-- | Tight liquidity, increased costs and wage inflation. | |||||||
7/19/2022 |
The GEO Group Inc. |
Security and saftey services | CC/Negative/-- | CCC/Negative/-- | Restructuring agreement. ESG risk. | |||||||
6/13/2022 |
Output Services Group Inc. |
Outsourced business and IT services | CC/Negative/-- | CCC/Negative/-- | Shift to digital services in the U.K., increased costs in the U.S. | |||||||
6/13/2022 |
CoreLogic Inc. |
Information services | B-/Stable/-- | B/Stable/-- | Lower mortgage refinancing activity, higher interest rates, fewer mortgage originations. | |||||||
6/3/2022 |
Grubhub Inc. |
Software | CCC+/Developing/-- | B-/Negative/-- | Cash flow deficits, weakened group support, unfavorable legislation (fee caps). | |||||||
4/14/2022 |
CoolSys Inc. |
Facility maintenance | CCC+/Negative/-- | B-/Stable/-- | Cost inflation, wage inflation, supply chain disruption, cash flow deficits, elevated leverage. | |||||||
4/13/2022 |
AlixPartners LLP |
Consulting and professional services | B+/Negative/-- | B+/Stable/-- | 2021 credit metrics weaker than expected because of lower demand for the company's restructuring services and higher employee compensation expenses. | |||||||
4/11/2022 |
CDK Global Inc. |
Software | BB+/Watch Neg/-- | BB+/Stable/-- | Announced acquisiton by private equity. | |||||||
4/11/2022 |
Brightview Landscapes LLC |
Facility maintenance | B+/Negative/-- | B+/Stable/-- | Increased debt and uncertainty around revenue. | |||||||
4/8/2022 |
4L Topco Corp. |
Commercial services and supplies | CCC/Negative/-- | CCC+/Stable/-- | Tight liquidity, refinancing risk, cost inflation, wage inflation, increased competition. | |||||||
4/7/2022 |
PSS Industrial Group Corp. |
Distribution services | D/NM/-- | CCC-/Negative/-- | Missed principal and interest payments. | |||||||
4/6/2022 |
Tivity Health Inc. |
Consulting and professional services | B+/Watch Neg/-- | B+/Positive/-- | Announced acquisiton by private equity. | |||||||
3/31/2022 |
PetroChoice Holdings Inc. |
Distribution services | CCC/Negative/-- | CCC-/Negative/-- | Refinancing risk, tight liquidity, elevated fuel costs, supply chain disruption. | |||||||
3/31/2022 |
Monitronics International Inc. |
Security and saftey services | CCC+/Negative/-- | B-/Negative/-- | Unsuccessful refinancing, cash flow deficits, tight liquidity. | |||||||
2/3/2022 |
The Knot Worldwide Inc. |
Software | B/Stable/-- | B/Stable/-- | Incremental first-lien term loan replacing second-lien term loan, lowering the recovery rating. | |||||||
2/2/2022 |
Grubhub Inc. |
Software | B-/Negative/-- | B+/Watch Neg/-- | Cash flow deficits, unfavorable legislation (fee caps), increased competition. | |||||||
1/31/2022 |
Halo Buyer Inc. |
Distribution services | CCC+/Negative/-- | B-/Negative/-- | Cash flow deficits, tight liquidity, COVID-19, supply chain disruption, wage inflation. | |||||||
1/26/2022 |
The GEO Group Inc. |
Security and saftey services | CCC/Negative/-- | CCC+/Negative/-- | Debt exchange risk, ESG risk. | |||||||
1/14/2022 |
ABB/Con-Cise Optical Group LLC |
Distribution services | CCC/Negative/-- | CCC+/Negative/-- | Refinancing risk, tight liquidity, the COVID-19 pandemic, wage inflation. | |||||||
1/12/2022 |
Sorenson Communications LLC |
Outsourced business andIT services | B-/Stable/-- | B/Stable/-- | Majority stake purchase by Ariel Alternatives LLC. A new payment-in-kind loan, which was part of the announced leveraged buyout, will significatly increase Sorenson's leverage to the 5x area over the next 12 months. | |||||||
ESG--Environment, social, and governance. |
Table 5
North America Speculative-Grade Business And Technology Services Positive Rating Actions | ||||||||||||
---|---|---|---|---|---|---|---|---|---|---|---|---|
2022 to date | ||||||||||||
Date | Company | Subsector | To | From | Rationale | |||||||
10/6/2022 |
Staples Inc. |
Commercial services and supplies | B/Stable/-- | B/Negative/-- | Return-to-office trends and increased use of office supplies, inflation cost pass-on, hybrid work environment transition. | |||||||
9/26/2022 |
Sitel Group S.A. |
Outsourced business and IT services | BB/Stable/-- | BB-/Watch Pos/-- | Better-than-expected profitability, decreased leverage, prudent financial risk tolerance, scaling opportunity in customer engagement industry. | |||||||
9/23/2022 |
SIRVA Inc. |
Commercial services and supplies | B-/Stable/-- | CCC+/Negative/-- | Improved liquidity, extended maturity, improved EBITDA through synergies. | |||||||
9/13/2022 |
Getty Images Inc. |
Commercial services and supplies | B+/Positive/-- | B-/Watch Pos/-- | Deleveraging, subscription packages, rebound in entertainment after the worst of the COVID-19 pandemic. | |||||||
8/31/2022 |
Output Services Group Inc. |
Outsourced business and IT services | CCC+/Negative/-- | D/--/-- | Bankruptcy emergence, weakened demand for printed products, customer churn. | |||||||
8/24/2022 |
A&V Holdings Holdco LLC |
Outsourced business and IT services | B/Negative/-- | B/Negative/-- | Improved recovery rating, supply chain constraints. | |||||||
8/23/2022 |
The GEO Group Inc. |
Security and safety Services | B/Stable/-- | SD/--/-- | Bankruptcy emergence, improved liquidity and debt maturity profile. | |||||||
8/17/2022 |
TriNet Group Inc. |
Human capital management | BB+/Stable/-- | BB/Positive/-- | Wage inflation, low unemployment, deleveraging. | |||||||
7/7/2022 |
Target Hospitality Corp. |
Facility maintenance | B/Positive/-- | B/Negative/-- | Oil and gas operating momentum, strengthening government services segment, client diversification. | |||||||
6/22/2022 |
Sitel Group S.A. |
Outsourced business and IT services | BB-/Watch Pos/-- | BB-/Stable/-- | Merger announcement, increased scale and geographic diversity. | |||||||
6/10/2022 |
Spring Education Group Inc. |
Education services | B-/Stable/-- | CCC+/Stable/-- | Successful price increases, enrollment growth, low unemployment. | |||||||
6/8/2022 |
Monotype Imaging Holdings Inc. |
Software | B-/Positive/-- | B-/Stable/-- | Strong operating performance and medium/large enterprise branding appetite. | |||||||
5/27/2022 |
Tecta America Corp. |
Facility maintenance | B-/Positive/-- | B-/Stable/-- | Strong revenue and bookings, strength in the construction industry. | |||||||
5/24/2022 |
CoAdvantage Inc. |
Human capital management | B-/Positive/-- | B-/Stable/-- | Wage inflation, low unemployment, deleveraging. | |||||||
5/11/2022 |
ThoughtWorks Inc. |
Consulting and professional services | BB-/Stable/-- | B+/Stable/-- | Deleveraging, strong revenue and bookings growth, strategic IT spending trends. | |||||||
5/10/2022 |
Black Knight Inc. |
Information services | BB/Watch Pos/-- | BB/Stable/-- | Acquisition agreement leading to more favorable credit profile. | |||||||
5/2/2022 |
CB Poly Investments LLC |
Distribution services | B/Stable/-- | B-/Negative/-- | Successful refinancing, market share gains, higher margin mix, successful price increases. | |||||||
4/21/2022 |
RCP Vega Inc. |
Payment services | B-/Stable/-- | CCC+/Positive/-- | Shift to digital payments, long-term contracts, market share growth potential. | |||||||
4/5/2022 |
DTI Holdco Inc. |
Outsourced business and IT services | B-/Stable/-- | CCC+/Positive/-- | Successful refinancing, strong bookings, increased liquidity. | |||||||
4/4/2022 |
KUEHG Corp. |
Education services | B-/Positive/-- | CCC+/Stable/-- | Significantly improved operating performance from increased enrollment and tuition rates, higher capacity utilization, substantial funding received from government stimulus. | |||||||
4/4/2022 |
Learning Care Group (US) No. 2 Inc. |
Education services | B-/Stable/-- | CCC+/Stable/-- | Demand for early childhood education remaining robust over the next 12 months, unemployment low, and the risk of significant operating disruptions from COVID-19 subsiding, which should translate into improved credit metrics. | |||||||
3/22/2022 |
Adtalem Global Education Inc. |
Education services | BB-/Positive/-- | BB-/Stable/-- | Significant amount of debt from the divestiture of its financial services segment paid down, expected leverage below our 3x upgrade threshold in fiscal 2023 (ending in June 2023). | |||||||
2/22/2022 |
CoreCivic Inc. |
Security and safety services | BB-/Stable/-- | BB-/Negative/-- | Improved debt maturity profile, ESG risk, intermediate-term revenue visibility. | |||||||
2/8/2022 |
Cast & Crew LLC |
Software | B/Stable/-- | B-/Stable/-- | Strong operating performance supported by increased demand for media content. | |||||||
2/2/2022 |
NAVEX Topco Inc. |
Software | B/Stable/-- | B-/Stable/-- | Growth in the engineering and construction software market, recurring revenue, successful price increases. | |||||||
1/14/2022 |
OCM System One Buyer CTB LLC |
Human capital management | B/Stable/-- | B-/Stable/-- | Revenue and EBITDA for 2021 better than expected, continued high demand for its services for at least the next 12 months. | |||||||
ESG--Environment, social, and governance. |
Table 6
EMEA Speculative-Grade Business And Technology Services Positive Rating Actions | ||||||||
---|---|---|---|---|---|---|---|---|
2022 to date | ||||||||
Date | Company | To | From | |||||
9/28/2022 |
Vincent Topco BV (NL) |
B-/Stable/-- | B-/Negative/-- | |||||
9/27/2022 |
Element Materials Technology Ltd. |
B/Stable/-- | B-/Watch Pos/-- | |||||
4/28/2022 |
Edenred SE |
BBB+/Positive/A-2 | BBB+/Stable/A-2 | |||||
4/26/2022 |
Comdata SpA |
CCC+/Watch Pos/-- | CCC+/Positive/-- | |||||
3/11/2022 |
Spie S.A. |
BB/Stable/-- | BB/Negative/-- | |||||
2/17/2022 |
Techem Verwaltungsgesellschaft 674 mbH |
B+/Stable/-- | B+/Negative/-- | |||||
1/27/2022 |
Element Materials Technology Ltd. |
B-/Watch Pos/-- | B-/Stable/-- | |||||
1/26/2022 |
House of HR N.V. |
B/Stable/-- | B/Negative/-- | |||||
EMEA--Europe, the Middle East, and Africa. |
Table 7
EMEA Speculative-Grade Business And Technology Services Issuers--Negative Rating Actions | ||||||||
---|---|---|---|---|---|---|---|---|
2022 to date | ||||||||
Date | Company | To | From | |||||
9/19/2022 |
Armorica Lux S.a r.l. |
B-/Negative/-- | B-/Stable/-- | |||||
7/26/2022 |
Securitas AB |
BBB-/Stable/A-3 --/--/K-3 | BBB/Watch Neg/A-2 K-2/Watch Neg | |||||
5/25/2022 |
Elior Group S.A. |
B+/Stable/-- | BB-/Negative/-- | |||||
4/8/2022 |
La Financiere Atalian SAS |
B/Negative/-- | B/Stable/-- | |||||
3/15/2022 |
Armorica Lux S.a r.l. |
B-/Stable/-- | B/Stable/-- | |||||
EMEA--Europe, the Middle East, and Africa. |
Related Research
- Economic Outlook U.S. Q2 2022: Spring Chills, March 29, 2022
- Global Macro Update: Preliminary Forecasts Reflecting The Russia-Ukraine Conflict, March 8, 2022
This report does not constitute a rating action.
Primary Credit Analysts: | Andrew Yee, New York + 1 (212) 438 7675; andrew.yee@spglobal.com |
Nishit K Madlani, New York + 1 (212) 438 4070; nishit.madlani@spglobal.com | |
Secondary Contacts: | Thomas J Hartman, CFA, Chicago + 1 (312) 233 7057; thomas.hartman@spglobal.com |
Daniel Pianki, CFA, New York + 1 (212) 438 0116; dan.pianki@spglobal.com | |
Ben Hirsch, CFA, New York + 1 (212) 438 0240; ben.hirsch@spglobal.com | |
Andy G Sookram, New York + 1 (212) 438 5024; andy.sookram@spglobal.com | |
Jenny Chang, CFA, New York + 1 (212) 438 8671; jenny.chang@spglobal.com | |
Osnat Jaeger, London + 44 20 7176 7066; osnat.jaeger@spglobal.com | |
Solene Van Eetvelde, Paris + 33 14 420 6684; solene.van.eetvelde@spglobal.com | |
Christine Besset, Dallas + 1 (214) 765 5865; christine.besset@spglobal.com | |
Terence O Smiyan, London + 44 20 7176 6304; terence.smiyan@spglobal.com | |
Julie L Herman, New York + 1 (212) 438 3079; julie.herman@spglobal.com | |
Research Assistant: | Anju Shukla, Pune |
No content (including ratings, credit-related analyses and data, valuations, model, software, or other application or output therefrom) or any part thereof (Content) may be modified, reverse engineered, reproduced, or distributed in any form by any means, or stored in a database or retrieval system, without the prior written permission of Standard & Poor’s Financial Services LLC or its affiliates (collectively, S&P). The Content shall not be used for any unlawful or unauthorized purposes. S&P and any third-party providers, as well as their directors, officers, shareholders, employees, or agents (collectively S&P Parties) do not guarantee the accuracy, completeness, timeliness, or availability of the Content. S&P Parties are not responsible for any errors or omissions (negligent or otherwise), regardless of the cause, for the results obtained from the use of the Content, or for the security or maintenance of any data input by the user. The Content is provided on an “as is” basis. S&P PARTIES DISCLAIM ANY AND ALL EXPRESS OR IMPLIED WARRANTIES, INCLUDING, BUT NOT LIMITED TO, ANY WARRANTIES OF MERCHANTABILITY OR FITNESS FOR A PARTICULAR PURPOSE OR USE, FREEDOM FROM BUGS, SOFTWARE ERRORS OR DEFECTS, THAT THE CONTENT’S FUNCTIONING WILL BE UNINTERRUPTED, OR THAT THE CONTENT WILL OPERATE WITH ANY SOFTWARE OR HARDWARE CONFIGURATION. In no event shall S&P Parties be liable to any party for any direct, indirect, incidental, exemplary, compensatory, punitive, special or consequential damages, costs, expenses, legal fees, or losses (including, without limitation, lost income or lost profits and opportunity costs or losses caused by negligence) in connection with any use of the Content even if advised of the possibility of such damages.
Credit-related and other analyses, including ratings, and statements in the Content are statements of opinion as of the date they are expressed and not statements of fact. S&P’s opinions, analyses, and rating acknowledgment decisions (described below) are not recommendations to purchase, hold, or sell any securities or to make any investment decisions, and do not address the suitability of any security. S&P assumes no obligation to update the Content following publication in any form or format. The Content should not be relied on and is not a substitute for the skill, judgment, and experience of the user, its management, employees, advisors, and/or clients when making investment and other business decisions. S&P does not act as a fiduciary or an investment advisor except where registered as such. While S&P has obtained information from sources it believes to be reliable, S&P does not perform an audit and undertakes no duty of due diligence or independent verification of any information it receives. Rating-related publications may be published for a variety of reasons that are not necessarily dependent on action by rating committees, including, but not limited to, the publication of a periodic update on a credit rating and related analyses.
To the extent that regulatory authorities allow a rating agency to acknowledge in one jurisdiction a rating issued in another jurisdiction for certain regulatory purposes, S&P reserves the right to assign, withdraw, or suspend such acknowledgement at any time and in its sole discretion. S&P Parties disclaim any duty whatsoever arising out of the assignment, withdrawal, or suspension of an acknowledgment as well as any liability for any damage alleged to have been suffered on account thereof.
S&P keeps certain activities of its business units separate from each other in order to preserve the independence and objectivity of their respective activities. As a result, certain business units of S&P may have information that is not available to other S&P business units. S&P has established policies and procedures to maintain the confidentiality of certain nonpublic information received in connection with each analytical process.
S&P may receive compensation for its ratings and certain analyses, normally from issuers or underwriters of securities or from obligors. S&P reserves the right to disseminate its opinions and analyses. S&P's public ratings and analyses are made available on its Web sites, www.spglobal.com/ratings (free of charge), and www.ratingsdirect.com (subscription), and may be distributed through other means, including via S&P publications and third-party redistributors. Additional information about our ratings fees is available at www.spglobal.com/usratingsfees.