S&P revised its rating outlook on Fitness International LLC, the parent of LA Fitness, to negative from developing because of significant near-term downside risks due to COVID-19.
S&P said in its analysis, “While LA Fitness has been able to make a significant portion of its cost structure variable in response to mandatory club closures resulting in a lower cash burn compared to our previous April base case, rising COVID-19 cases in the south, southwest, and western U.S. and subsequent roll-backs of state reopening plans have shifted risks to the downside. The outlook revision to negative from developing primarily reflects a modestly downward shift in our base case forecast for revenue and EBITDA in 2020 and 2021, and the significant uncertainty around the shape and nature of a COVID-19 containment effort. Accordingly, we believe there is the possibility that a significant portion of LA Fitness’ clubs may be forced to remain fully or partially closed for the next several months, and potentially into 2021, which could result in reduced revenue and cash flow for a prolonged period. Additionally, elevated unemployment levels and a prolonged recession combined with consumer fear around returning to the gym may result in higher lease-adjusted leverage in 2021 than our base case of around 7x. Depending on the longevity of restrictions and gym closures, and of the ongoing U.S. recession, the range of outcomes may vary widely for revenue, EBITDA, leverage, and liquidity in coming months and this year. It is also possible that revenue and EBITDA declines could be harsher than our base case scenario if club closures continue beyond the third quarter of 2020, or containment efforts continue into 2021.
“We affirmed the ‘CCC+’ rating, reflecting our assumption that LA Fitness will experience a significant spike in leverage and a cash burn rate while gyms are closed and possibly during the early months of reopening that may result in an unsustainable capital structure. We have not lowered the rating further at this time, because the company’s cash balances provide it some liquidity cushion to weather additional cash burn. We assume that as a result of the recent surge in COVID-19 cases, and California’s July 13 order that fitness clubs in 30 counties close, LA Fitness will be required to re-close many of its recently reopened gyms located in California, Arizona, Texas, and Florida, where it has over 40 percent of its clubs, through the third quarter of 2020 and potentially beyond. In our base case, we estimate revenue could decline 45 percent or more in 2020 as a result of gym closures, the recession, and member concerns around returning safely to the gym, and we now expect our measure of the company’s leverage could be around 7x through 2021, even under our base case for recovery in 2021.”
Logo courtesy Fitness International
