Exhibit 99.1
Standard & Poor’s
Maalot
S&P Global
Formula Systems Ltd.
August 30, 2016
Primary Credit Analyst:
Matan Benjamin, 972-3-7539731matan.benjamin@spglobal.com
Secondary Credit Analyst:
Tom Dar, 972-3-7539722tom.dar@spglobal.com
Table of Contents
| Rationale | |
| | |
| Rating Outlook | |
| | |
| Standard & Poor’s Base-Case Scenario | |
| | |
| Business Risk | |
| | |
| Financial Risk | |
Liquidity | |
| | |
| Reconciliation | |
| | |
| Related Criteria And Research | |
Please note that this translation was made for the company’s use only and under no circumstances obligates Standard &Poor’s Maalot. In the case of any discrepancy with the official Hebrew version published on August 25, 2016, the Hebrewversion shall apply.
| Rating Affirmation | August 30, 2016 | 1 |
Formula Systems Ltd..
Formula Systems Ltd.
| Corporate Credit Rating Affirmation | | ilA+/Stable |
Rationale
| Business Risk | | Financial Risk |
| | | |
| · Leading competitive position of subsidiary Matrix in the Israeli IT market. | | · Relatively low leverage. |
| | | |
| · On-going growth in Sapiens and Magic operations. | | · Dependence on dividends from subsidiaries for debt service. |
| | | |
| · Wide variety of products and services, client base materially diversified between segments. | | · Adequate liquidity. |
| | | |
| · Low revenues and EBITDA compared to global peers. | | |
| | | |
| · Relatively small scope of IP rights and limited R&D capabilities. | | |
Outlook: Stable
The stable outlook reflects our assessment that Formula’s subsidiary, Matrix IT Ltd., will maintain its leading position in the Israeli IT market and that the operating performance of its subsidiaries Magic Software Enterprises Ltd. and Sapiens International Corporation N.V. will at least remain stable. The outlook also reflects our assessment that the gross adjusted debt to EBITDA ratio will remain below 3.0x and that the LTV (loan to value) ratio, which is currently about 10%, will not rise significantly.
Downside Scenario
The rating may be under pressure if the gross adjusted debt to EBITDA ratio will be above 3.0x or if the LTV ratio will increase significantly. This scenario could materialize if the subsidiaries’ operating performance and valuations deteriorate or if the group’s financial debt will increase significantly due to financing of acquisitions or large dividend distributions to shareholders.
Upside Scenario
We may consider a positive rating action if the company’s revenues and EBITDA increase significantly and if its gross debt to EBITDA ratio consistently drops below 2.0x.
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Formula Systems Ltd..
Standard & Poor’s Base-Case Scenario
| Principal Assumptions | | Key Metrics |
| · Continued growth in Sapiens operation and moderate growth in Matrix sales; | | | 2015A | 2016E | 2017E |
| · 12%-14% EBITDA margin in 2016 and 2017; | | | | | |
| · Dividend distribution of $10-15 million per year; | | Debt/EBITDA | 2.7x | 2.0x-3.0x | 2.0x-3.0x |
| · Dividends from subsidiaries of about $15-20 million per year. | | LTV ratio | 10% | 10%-20% | 10%-20% |
| | A – Actual, E – Estimate. | | | |
Company Description
Formula Systems Ltd. (“Formula”) was established in 1985 and its shares are traded on the Tel-Aviv Stock Exchange and on NASDAQ. Through its subsidiaries, Matrix IT Ltd. (49.97%), Sapiens International N.V. (48.9%), Magic Software Enterprises Ltd. (47.29%) and Insync Staffing (90%), the company operates in the development, marketing and distribution of software and software tools and in providing software services to computerized systems. Matrix, Sapiens and Magic are public companies listed on the Tel-Aviv Stock Exchange and part of the Tel Aviv 100 index, and the shares of Sapiens and Magic are also listed on NASDAQ. In May2016,Formula acquired, together with the Israel Aviation Industries (ilAA/Stable/BBB/Stable), the share capital and shareholders loans in TSG IT Advanced Systems (“TSG”) and each party now holds 50% of the company. TSG is engaged in the field of command and control systems, intelligence, homeland security and cyber security.
The controlling shareholder of the company is the Polish Asseco group (46.33%) which focuses on the development and marketing of software and services to organizations. The public, institutional investors and several of the company’s managers hold the rest of the Formula’s shares.
Business Risk Profile
Leading position in the Israeli IT market through Matrix and continued growth in Sapiens and Magic operations
Our assessment of Formula’s business risk profile reflects the following factors:
| · | A large variety of products and services and a diversified client base materially spread over different segments. |
| · | The leading position of subsidiary Matrix in the Israeli IT market, and its long-lasting reputation and brand name. |
| · | Matrix’s exposure to the characteristics and risks of the Israeli IT services market, including price competition which gradually diminishes gross profit margins. |
| · | Growth in Sapiens and Magic operations in the last few years. Sapiens’ revenues grew by 15% in 2015, while Magic’s revenues grew by 5%. This growth was partly achieved through mergers and acquisitions of companies in close fields of operation and through reorganization/cost reduction and measures taken to expand client base and increase follow-up sales to existing clients. |
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Formula Systems Ltd..
| · | Relatively high entry barriers to markets in which Sapiens operates based on long-term relationship with clients and high replacement costs when changing software providers. |
| · | Low revenues and EBITDA compared to global peers. Global competitors benefit from economies of scale which enables them to bear large R&D costs and material capital expenditures. |
| · | Relatively few IP rights and limited R&D capabilities. Major part of the company’s revenues is generated from services and the rest is generated from selling licenses. The ownership on intellectual property and R&D capabilities are crucial in formatting entry barriers and leading market position. |
Financial Risk Profile
Relatively low leverage; dependence on dividends from subsidiaries to service debt
Given the nature of Formula’s operation (high exposure to subsidiaries’ operating risks, material involvement in their management and strategy and viewing them as long-term core investments), we examine the company’s financial risk mainly on the basis of debt coverage ratios derived from its financial statements, and view its LTV ratio only as an indicative measure to leverage. Starting in 2016, Formula’s financial statements, in accordance with IFRS accounting principle, fully consolidate all of its subsidiaries. We made adjustments to the financial statements and examine debt coverage ratio based on partial consolidation of subsidiaries’ financial results. In our base case scenario, we expect a gross debt to adjusted EBITDA ratio between 2.0x and 3.0x in 2016 and 2017. We note that the company’s LTV ratio is currently about 10%.
Our base case for 2016-2017 is based on the following assumptions:
| · | 10%-15% annual growth in Sapiens sales and 3%-6% in Matrix sales; |
| · | 12%-14% EBITDA margin in 2016 and 2017; |
| · | Annual dividend distribution of $10-15 million; |
| · | No cash was deducted from debt. |
Based on these assumptions, we anticipate the company’s debt coverage ratios in 2016-2017 to be as follows:
| · | Gross debt to adjusted EBITDA ratio of 2.0x-3.0x in 2016 and 2017; |
| · | LTV ratio of 10%-20%. LTV ratio is currently about 10%. |
Liquidity: Adequate
Our assessment of Formula’s liquidity reflects its stand-alone (solo) liquidity profile as a holding company. According to our criteria, Formula’s liquidity is “adequate”. In our view, the fact that Formula’s portfolio includes mainly liquid/tradable assets enhances its financial flexibility. However, we believe the current ownership stake in Formula’s subsidiaries limit its willingness to sell some of its holdings and possibly forfeit its controlling premium. Nevertheless, lack of full control of subsidiaries in general and at the current ownership stake in particular is also a weakness due to limitations on deriving cash flows from subsidiaries and continued dependence on dividend receipt in order to service debt. All this notwithstanding, we note that Formula, as controlling shareholder, is capable of influencing dividend distribution in its subsidiaries, that currently hold large cash balances. We also note that Magic and Matrix have a formal dividend distribution policy of up to 50% and 75% of net profit, respectively, and that Sapiens, though lacking a formal policy, distributes up to 50% of net profit. We estimate that the ratio between Formula’s liquidity sources and uses in the next 12 months will exceed 1.2x.
| www.maalot.co.il | August 30, 2016 | 4 |
Formula Systems Ltd..
The following are our assumptions regarding the company’s major sources and uses in the next 12 months starting June 30, 2016:
| Principal Liquidity Sources | | Principal Liquidity Uses |
| | | |
| · About $50 million in cash and liquid investments; | | · Debt principal payments of about $12 million; |
| | | |
| · Dividends received from subsidiaries of about $18 million. | | · Interest payments of about $2.5 million; |
| | | |
| | | · General and administrative expenses of about $2 million; |
| | | |
| | | · Expected dividend distribution of about $10 million - $15 million. |
Covenant Analysis
As of June 30, 2016, the company has adequate headroom over all of its financial covenants, and we estimate that it will maintain this headroom in the medium term. The covenants include, among other things, maintaining a net financial debt at Formula level of up to NIS 450 million and debt/CAP ratio of up to 65%.
Modifiers
Diversification portfolio effect: Neutral
Capital structure: Neutral
Liquidity: Neutral
Financial policy: Neutral
Management/Governance: Neutral
Comparable ratings analysis: Negative
Reconciliation
In order to create a basis for comparison with other rated companies, we adjust the reported data in the company’s financial statements which we use to calculate coverage ratios. The main adjustments we made on Formula’s 2015 consolidated data are:
| · | Partial consolidation of subsidiaries’ financial results; |
| · | Discounting long term operating leasing contracts and adding them to reported debt; |
| · | Increasing EBITDA, FFO (funds from operations) and cash flow from operations in respect of interest and depreciation component of future leasing payments previously discounted into financial debt. |
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Formula Systems Ltd..
| · | No cash was deducted from debt. |
Table 1.
Reconciliation Of Formula Systems Ltd. Reported Amounts With Standard & Poor’s Adjusted Amounts (Mil. $)
| | —Fiscal year ended Dec. 31, 2015— | |
| Formula Systems Ltd. reported amounts | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| | | | | | Shareholders’ | | | | | | | | | Operating | | | Interest | | | | | | Cash flow from | | | Capital | |
| | | Debt | | | equity | | | Revenues | | | EBITDA | | | income | | | expense | | | EBITDA | | | operations | | | expenditures | |
| Reported | | | 220.7 | | | | 451.6 | | | | 750.6 | | | | 64.2 | | | | 46.6 | | | | 9.9 | | | | 64.2 | | | | 54.4 | | | | 9.8 | |
| Standard&Poor’s adjustments | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |
| Interest expense (reported) | | | — | | | | — | | | | — | | | | — | | | | — | | | | — | | | | (9.9 | ) | | | — | | | | — | |
| Interest income (reported) | | | — | | | | — | | | | — | | | | — | | | | — | | | | — | | | | 0.7 | | | | — | | | | — | |
| Current tax expense (reported) | | | — | | | | — | | | | — | | | | — | | | | — | | | | — | | | | (10.2 | ) | | | — | | | | — | |
| Operating leases | | | 37.6 | | | | — | | | | — | | | | 20.3 | | | | 3.1 | | | | 3.1 | | | | 17.1 | | | | 17.1 | | | | — | |
| Share-based compensation expense | | | — | | | | — | | | | — | | | | 5.1 | | | | — | | | | — | | | | 5.1 | | | | — | | | | — | |
| Dividends received from equity investments | | | — | | | | — | | | | — | | | | 3.5 | | | | — | | | | — | | | | 3.5 | | | | — | | | | — | |
| Deconsolidation consolidation | | | (45.0 | ) | | | 76.0 | | | | (262.0 | ) | | | (14.0 | ) | | | (7.8 | ) | | | (2.5 | ) | | | (11.5 | ) | | | (2.0 | ) | | | (2.0 | ) |
| Non-operating income (expense) | | | — | | | | — | | | | — | | | | — | | | | 66.7 | | | | — | | | | — | | | | — | | | | — | |
| Reclassification of interest and dividend cash flows | | | — | | | | — | | | | — | | | | | | | | — | | | | — | | | | — | | | | 3.5 | | | | | |
| Non-controlling Interest/Minority interest | | | — | | | | 100.7 | | | | — | | | | — | | | | — | | | | — | | | | — | | | | — | | | | — | |
| Total adjustments | | | (7.4 | ) | | | 176.7 | | | | (262.0 | ) | | | 14.9 | | | | 62.0 | | | | 0.6 | | | | (5.2 | ) | | | 18.7 | | | | (2.0 | ) |
Standard& Poor’s adjusted amounts
| | | | | | | | | | | | | | | | | | Interest | | | Funds from | | | Cash flow from | | | Capital | |
| | | Debt | | | Equity | | | Revenues | | | EBITDA | | | EBIT | | | expense | | | operations | | | operations | | | expenditures | |
| Adjusted | | | 213.3 | | | | 628.3 | | | | 488.6 | | | | 79.0 | | | | 108.6 | | | | 10.5 | | | | 59.0 | | | | 73.1 | | | | 7.8 | |
Related Criteria And Research
| · | National And Regional Scale Credit Ratings, September 22, 2014 |
| · | S&P Global Ratings’ National And Regional Scale Mapping Tables, June 1, 2016 |
| · | Standard & Poor’s Ratings Definitions, February 1, 2016 |
| · | Methodology: Timeliness Of Payments: Grace Periods, Guarantees, And Use Of ‘D’ And ’SD’ Ratings, October 24, 2013 |
| · | Corporate Methodology, November 19, 2013 |
| · | Methodology And Assumptions: Liquidity Descriptors For Global Corporate Issuers, December 16, 2014 |
| · | Methodology: Industry Risk, November 19, 2013 |
| · | Country Risk Assessment Methodology And Assumptions, November 19, 2013 |
| · | Corporate Methodology: Ratios And Adjustments, November 19, 2013 |
| · | Use Of CreditWatch And Outlooks, September 14, 2009 |
| · | Group Rating Methodology, November 19, 2013 |
| · | Key Credit Factors For The Technology Software And Services Industry, November 19, 2013 |
| www.maalot.co.il | August 30, 2016 | 6 |
Formula Systems Ltd..
| Rating Details (As of 30-Aug-2016) | |
Formula Systems Ltd. Issuer rating(s) | |
| Local Currency LT | ilA+/Stable |
| | |
| Issue rating(s) | |
| Senior Secured Debt | |
| Series A | ilA+ |
| | |
| Senior Unsecured Debt | |
| Series B | ilA+ |
| | |
| Issuer Rating history | |
| Local Currency LT | |
| 28-Aug-2015 | ilA+/Stable |
| | |
| Other Details | |
| Time of the event | 30/08/2016 13:19 |
| Time when the analyst first learned of the event | 30/08/2016 13:19 |
| Rating requested by | Issuer |
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