RXO, the brokerage division spinoff from XPO Logistics that will become a stand-alone company in two weeks, has its first debt rating. And it’s higher than the company that is about to spin it off.
S&P Global Ratings last week rated RXO BB+. That is one notch above the BB rating held by XPO (NYSE: XPO). However, S&P put XPO on Creditwatch Positive in June, which is often the first step toward a ratings upgrade.
The RXO rating of BB+ is the highest grade among its non-investment-grade ratings. Non-investment-rated debt is colloquially known as “junk,” but at BB+ it’s only one notch below BBB-, which is the lowest rating considered investment grade.
RXO is issuing debt to pay a one-time dividend to XPO. That debt is the focus of the
S&P rating. Although the S&P report did not mention the size of the debt it was rating, XPO announced last week that XPO had priced a $355 million offering that would be transferred to RXO at the time of the spinoff. The notes are due in 2027. According to the XPO release on the pricing, the debt carries a 7.5% interest rate.
The spinoff is expected to be completed Nov. 1.
“The positive outlook reflects our expectation that credit metrics should improve in the 12 months following the close of the transaction with funds from operations (FFO) to debt increasing to around 60% in 2024 from around 50% in 2022, despite a weaker macroeconomic environment, as the company continues to increase its market share and benefit from its proprietary technology,” S&P said in its ratings report.
“We believe RXO benefits from its position as a large freight broker, range of service offerings, and technology investments.”
In the Form 10 filed with the Securities and Exchange Commission in connection with the spinoff, XPO said the revenue of the brokerage activities to be spun off as RXO was approximately $4.7 billion last year.
Earnings before interest, taxes, depreciation and amortization — a key number for the ratings agencies calculating a company’s ability to service its debt — was $316 million in the first half of 2022 and $255 million in the corresponding months of 2021.
Projecting EBITDA margins for RXO — EBITDA as a percentage of revenue — S&P said it expects margins to be in the low 7% range through next year before rising to the mid-7% range. “Stable margins and revenue growth should result in EBITDA growth on an absolute basis and improve credit metrics,” S&P said.
S&P also said it projects RXO’s debt-to-EBITDA ratio will remain in the mid-1X range through next year and improve to around 1.25X after that.
In its forecast for both the short and long term released Tuesday, XPO said it expects RXO to have adjusted EBITDA in 2027 of $475 million to $525 million and annual interest expense of about $37 million for the five years between 2023 and 2027, inclusive.
The RXO network consisted of 98,000 carriers as of the end of June. “We believe this scale allows RXO to meet shippers’ demand and provide reliable service even during periods of constrained capacity,” the ratings agency said.
XPO Connect is the company’s online brokerage platform, and it will be under the RXO banner following the spinoff. While such platforms provide a higher barrier to entry to brokerage than previously, S&P said, “this has also led to new entrants from technology companies, including Uber Technologies and Amazon.”
But the position of XPO/RXO in the space is a strong one, S&P said. “We anticipate RXO will benefit from its early investments in technology, which should support customer and carrier retention,” the agency said.
With the slowdown in the economy — S&P as a whole expects a recession in the first half of 2023 — the ratings agency said it expects revenue growth for RXO will “moderate” to the low-single-digit percentage area next year, which would be down from the mid-single-digit rate of 2022, “with market share gains partially offsetting lower transportation pricing,” S&P said. “We forecast revenue then increases in the high-single-digit percent area in 2024, as the macroeconomic environment improves.”
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