Moody's assigns B3 Corporate Family Rating to Diamond Foods; outlook stable

NEW YORK , January 30, 2014 (press release) – Moody's Investors Service (Moody's) today assigned a first time Corporate Family Rating (CFR) and Probability of Default Rating (PDR) of B3 and B3-PD, respectively, to Diamond Foods, Inc. (Diamond). Moody's also assigned a B2 (LGD 3, 42%) rating to its proposed $415 million senior secured term loan, a Caa2 (LGD 5, 86%) rating to its proposed $230 million senior unsecured notes , and an SGL-2 Speculative Grade Liquidity Rating. The outlook is stable. Proceeds from the issuance will be used to refinance existing debt.

RATINGS RATIONALE

Diamond's B3 CFR reflects its high financial leverage, narrow margins, recently declining sales due to a loss of suppliers in its nuts business and change in promotional policy on Kettle Brand, and its exposure to commodity risk. It also reflects recent walnut shortages, and its relatively small scale compared to other market-leading branded snack food companies. Furthermore, ratings reflect the challenges facing some of its categories, including popcorn, which has experienced declining consumption. Diamond's weaknesses are partially offset by its attractive snack categories, solid portfolio of snack brands -- including Kettle Brand and Pop Secret -- modest geographic diversification outside of the US, including a solid presence in the UK, and good liquidity. Moody's believes that Diamond's problems relating to its previous accounting treatment of grower payments are mostly behind the company. Diamond recently settled a related shareholder lawsuit for $96 million with only a $11 million cash outlay ($10 million of which was paid by insurance) and settled its litigation with the SEC for $5 million, eliminating uncertainty around these issues. However the company still needs to demonstrate that it can regain growth momentum across its businesses.

Diamond's SGL-2 speculative grade liquidity rating reflects its good liquidity. The company's internal cash flow over the next year is likely sufficient to meet all basic cash needs, including working capital spending, term loan amortization and capital expenditures. However, Moody's notes that the quarter ending October 31st generally requires a large cash outflow for working capital buildup due to walnut supplier payments. The company's maintenance capital spending needs are limited and it has no near term debt maturities other than term loan amortization. Diamond's new facilities include a $125 million ABL revolving credit facility (unrated) and Moody's expects that Diamond will generally draw down $50 to $70 million in its first quarter (ending in October) every year due to seasonal working capital needs. Diamond's capital structure is covenant-lite and its ABL facility only includes a springing 1.0 times interest coverage ratio maintenance covenant if availability falls below 10% of the ABL commitment, which Moody's expects to be unlikely.

The stable outlook reflects Moody's expectation that Diamond will stabilize its business over the next twelve-to-eighteen months. While leverage is high initially, the company's positive operating cash flow should allow for leverage reduction over time. A return to growth could accelerate leverage reduction, which would be positive for the rating.

An upgrade could occur if EBIT margins remain at least in the high single digits, debt to EBITDA is maintained below six times, free cash flow is positive and there is evidence of sustained operating performance stabilization.

A downgrade is unlikely in the near future but could occur if operating margins decline, leverage increases, EBIT to interest is below one times or liquidity weakens. Any debt-financed dividend or acquisition could also result in a downgrade.

The following ratings were assigned:

Corporate Family Rating at B3

Probability of Default at B3-PD

Senior Secured Term Loan at B2 (LGD 3, 42%)

Senior Unsecured Notes at Caa2 (LGD 5, 86%)

Speculative Grade Liquidity Rating at SGL-2

The principal methodology used in this rating was the Global Packaged Goods published in June 2013. Other methodologies used include Loss Given Default for Speculative-Grade Non-Financial Companies in the U.S., Canada and EMEA published in June 2009. Please see the Credit Policy page on www.moodys.com for a copy of these methodologies.

Headquartered in San Francisco, California, Diamond Foods, Inc. is a packaged food company specializing in processing, marketing and distributing snack products and culinary, in-shell and ingredient nuts. Diamond has four distinct brands in two segments (snacks and nuts). including Diamond of California nuts, Kettle Brand potato chips, Pop-Secret popcorn and Emerald nuts. Net sales were $864 million for the fiscal year ended 7/31/2013.

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