Cinram Could Face DVD Market Erosion

The potential for unexpected DVD market erosion puts pressure on the Ba3 senior secured debt rating for Cinram International, states Moody's Investors Service in assessing a new $1.2 billion credit for the DVD, CD, videotape and audio cassette manufacturer. The deal backs Toronto-based Cinram's plans to acquire AOL Time Warner's DVD and CD business for $1.05 billion. "It's possible that the DVD business could come under some specific market pressures," said Donald Carter, v.p. and senior credit officer at Moody's. He explained that the possibility of DVD piracy, which would resemble the rampant piracy in the CD industry right now, does exist. "There have obviously been some pressures on the CD side of this business," he added.

The rating is also constrained by the concentration of Cinram's business with few key customers, Moody's notes, adding that integration risks and weak corporate governance practices are other issues of concern. "The board is currently comprised of six directors, of which only one is unrelated to the company and three of whom are company managers," Moody's adds, noting however that it has been advised that Cinram is taking steps to improve its corporate governance.

The rating is supported by Cinram's status as a global leader in the growing DVD market and declining CD business, as well as its history of fiscal conservatism, Moody's states. "Cinram did not have any debt at the end of June," Carter noted. "Moody's expects management to focus on debt reduction going forward through the use of free cash flow and an avoidance of further large acquisitions until debt is significantly reduced," Moody's notes.

The bank credit includes a $900 million "B" loan, a $150 million "A" loan and a $150 million revolver. Citigroup and Merrill Lynch are presently shopping the deal. The bank debt will fully fund the acquisition and Moody's expects that bank covenants will provide Cinram with full access to the initially unused revolver. Lewis Ritchie, Cinram's cfo, did not return calls.