Herndon-based Sotera Defense Solutionsbreached a requirement last month for some of its financing, according to a Standard & Poor’s report.
According to S&P, Sotera violated what’s known as a debt leverage covenant. Though the ratings service would not provide details about the requirement, these types of agreements typically compare a company’s debt with its financial performance.
The news of the breach, which resulted in S&P revising the company’s rating outlook to negative, is just the latest hurdle for Sotera, which like a lot of government contractors is being squeezed by federal budget cuts.
Sotera, previously known as Global Defense Technology & Systems, went private in 2011 when it was bought by an affiliate of private equity firm Ares Management.
Earlier this year, the company announced an abrupt change in leadership. In May, Sotera said John Hillen, who had run the contractor since 2008, would be stepping down — without a successor in place.
According to the Standard & Poor’s report, Sotera’s force mobility and modernization business segment — which the ratings service said builds base camp systems — is having a tougher time as troops leave Afghanistan. The continued revenue decline in this unit, the report added, increases the risk that Sotera might continue to violate agreements with its lenders.
Sotera declined to make Alderson available for an interview but said in a statement that the company is “confident we will be able to work through the situation with our lenders within the cure period provided by our loan agreement.” The company said Monday that Ares has "made an investment in Sotera bringing us back into compliance with our lending covenants."
David T. Tsui, an analyst with S&P, said in an interview that Sotera’s challenges are not unlike those of other contractors.
“It’s not just a one-year phenomenon; it’s a gradual decline,” he said, referring to the industry’s worsening financials. Tsui said Sotera is working with its lenders to get a waiver.
The challenges can be greater for contractors owned by private-equity firms, said Bob Kipps, managing director of the McLean-based investment firm KippsDeSanto. In recent years, many firms have been snapped up by private equity firms, lured by stable profits during the economic downturn.
“Contrary to conventional wisdom, [these companies] are actually [less] well-suited to deal with these issues, even though they’re out of the public light,” Kipps said. “They’re often highly leveraged,” meaning they depend heavily on borrowed money.
Indeed, the S&P report says Sotera has “less than adequate” liquidity and a “highly leveraged” financial risk profile.
A higher debt load means these contractors are typically not as able to handle “reductions in profitability, hiccups on acquisitions [and] increased uncertainty associated with” reopening contracts to new bidders, Kipps said.
Michael S. Lewis, managing director of the Silverline Group, a consulting firm, said the fees or higher interest rates that might come with a new agreement could worsen Sotera’s problems. If the company is using its money to pay off debt, it might be at a disadvantage when it comes to offering low-cost proposals for government work.
“It adds additional pressures to the firm and, I think, makes them less cost-competitive,” Lewis said. “One thing leads to another and another.”