S&P rates Oriental Trading loan BB-

Standard & Poor's assigned a BB- rating to Oriental Trading Co. Inc.'s proposed $290 million senior secured credit facilities. The outlook is stable.

S&P said the confirmation reflects Oriental Trading's better-than-expected operating performance and good cash flow protection measures, somewhat offset by the debt leverage increase from the redemption of its preferred stock and accrued dividends with increased borrowings under the proposed credit facility.

The ratings reflect the company's participation in the highly competitive and fragmented toys, novelties, party supplies, and home decor retailing industries, and a relatively small cash flow base. These risks are somewhat offset by its position as the leading direct marketer of valued-priced toys, novelties, and party supplies, and its stable cash flow generation, S&P said.

Oriental Trading performed above expectations in fiscal 2003 ended March 31, 2003 with a 15% sales growth to $482 million and a 28% EBITDA increase to $72.6 million, S&P noted. The positive operating trend was mainly driven by its aggressive customer acquisition and good consumer demand for its products. Operating margins expanded to over 15% in fiscal 2003 from 13% a year ago, reflecting improved sourcing, more efficient cost structure, and price increases, partly offset by increased catalog costs. Operating performance continues to be healthy during the first quarter of fiscal 2004 as sales and EBITDA for the 12 months ended May 31, 2003, increased to $505 million and $78 million, respectively.

Despite increased borrowings, OTC's credit measures should remain above average for the rating. Pro forma for the transaction, debt leverage is moderate with pro forma total debt to EBITDA of about 3.3x, S&P said. Pro forma EBITDA interest coverage is strong at over 5.0x. Cash flow generation is relatively stable because of the low working capital requirements of the direct marketing model and low capital expenditure needs. However, the company's cash flow base is small, making it vulnerable to adverse business conditions.

S&P cuts Payless ShoeSource to junk

Standard & Poor's downgraded Payless ShoeSource Inc. including cutting Payless ShoeSource Finance Inc.'s $200 million senior revolving credit facility due 2005 and $400 million senior term loan due 2005 to BB from BBB-. The outlook is stable.

S&P said the downgrade reflects Payless' weaker-than-expected operating performance, deteriorating credit protection measures and S&P's expectation that results will remain under pressure for the balance of 2003 due to intense promotions amid a difficult retail environment.

Payless' results have been disappointing over the last two years with mostly negative same-store sales due to weak consumer demand, increased competition and merchandising misses during the first half of 2002, S&P said. Although cost savings from its restructuring initiatives helped mitigate some impact from the negative sales, operating margins weakened to about 18% and EBITDA declined to about $330 million for the 12 months ended May 3, 2003, from historical levels of about 20% and over $400 million in fiscal 2000. First quarter 2003 results continued to be depressed with a comparable sales decline of 6.2%, reflecting unfavorable weather and weak consumer traffic which dampened demand for seasonal merchandise.

Payless recently revised downward its sales expectations for the second quarter of 2003 and now expects a low double-digit drop in same-store sales as the company plans to clear excess inventory through increased promotions and more aggressive markdowns, S&P noted. Because the footwear retail environment will remain intensely promotional and consumer demand is likely to remain weak for the balance of 2003, S&P said it expects that the company's operating performance will remain under pressure over the near to intermediate term.

Despite modest debt reduction, Payless' profitability and credit protection measures have deteriorated from historical levels due to the weak operating results, S&P said. Given the poor outlook for 2003 and the increased pressure on sales and operating margin, S&P expect Payless' credit measures to decline further in 2003 to levels that are no longer consistent with an investment-grade rating. Payless has good cash flow generation capabilities, however, and has consistently generated positive free cash flow.

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