By Thomas J. Ryan

Moody’s Investors Service placed the debt ratings of Bass Pro under review for a possible downgrade after expected higher debt levels from its planned acquisition of Cabela’s. More specifically, it indicated the possible downgrade may reflect “significant integration risk.”

As reported, Bass Pro on October 3 reached an agreement to acquire Cabela’s in a deal valued for $65.50 a share. The deal consists of about $4.5 billion in cash, with debt and other items bringing its value to $5.5 billion. It was valued at about a 16-times multiple of Cabela’s EBITDA, excluding its financial services division.

With Bass Pro’s sales in 2015 estimated at $4.3 billion and publicly traded Cabela’s (NYSE:CAB) at $3.2 billion last year, the combined business will generate revenues around $7.5 billion. The transaction, subject to regulatory and Cabela’s shareholders’ approvals, is expected to close during the first half of 2017.

“Bass Pro’s proposed acquisition of Cabela’s will combine the premier brands in the outdoor sporting goods industry with complementary business philosophies, product offerings and geographic footprints,” wrote Moody’s in its report. “However, the potential deal brings with it significant integration risk.”

Those integration risks may include any disruption caused by the merging of redundant departments as well as merging processes, including any required software integrations. The retailers have not disclosed the number of layoffs that may result from the merger. At the close of 2015, Cabela’s had 19,700 employees and Bass Pro is estimated to have a similar amount.

With Bass Pro Shops Founder and CEO Johnny Morris continuing as CEO, and majority shareholder of the new entity, it appears Tommy Millner, Cabela’s CEO, will soon be out of a job. Some Cabela’s executives are expected to stay on with Cabela’s, which is often praised for being better at execution than Bass Pro.

Some stores are likely to close as well, although not right away. Bass Pro wrote in a note to customers after the deal was announced, “It is business as usual at Bass Pro Shops and Cabela’s and there will be no immediate impact to our stores.”

The company plans to continue the Cabela’s brand rather than changing all stores to Bass Pro and efforts may take place to further differentiate the two concepts. The parties contend the two chains have little overlap in their stores. Cabela’s has 85 locations, primarily in the western U.S. and Canada, while Bass Pro Shops operates 99 stores and Tracker Marine Centers located primarily in the eastern part of the U.S. and Canada.

But some overlap has occurred, as both have rapidly expanded their mega-stores over the last decade. In Kansas City, for example, Bass Pro has two locations while Cabela’s has one and plans to open a second location near the city of Lee’s Summit in fall 2017 or spring 2018.

The deal also requires the green light from federal antitrust regulators who may seek to block the deal if they see Bass Pro gaining too much clout in the marketplace with the merger. Last year, the FTC blocked a deal that would have combined Staples and Office Depot, and they required Dollar Tree and Family Dollar to sell more than 300 stores before a merger could proceed.

By some indications, antitrust concerns are minimal. According to estimates provided by Cabela’s to the investment community, Cabela’s in 2015 controlled 4.3 percent of the $60 billion to $65 billion North American sporting goods market, with Bass Pro controlling 3.5 percent.

Walmart had the biggest share at 15.6 percent, while full-line sporting goods stores, such as Dick’s Sporting Goods and Academy Sports & Outdoors, controlled 8.6 percent, according to Cabela’s. Among its direct competitors in the hunt space, Gander Mountain controlled 2 percent, Sportsman’s Warehouse 1.2 percent and Scheels 0.7 percent.

Meanwhile, some uncertainty remains on the funding side, according to Moody’s. To support the deal, Bass Pro Shops plans to take on a partnership with Capital One Financial Corporation to originate and service Cabela’s co-branded credit card. Just before the closing of the transaction, Capital One will acquire some assets and liabilities of Cabela’s World’s Foremost Bank; the cash from this transaction will stay on Cabela’s balance sheet until it’s acquired by Bass Pro.

Moody’s said Bass Pro’s final capital structure is unclear given that the expected proceeds from Capital One’s purchase of certain financial services assets and assumed liabilities have not been disclosed.

To support the funding of a portion of the transaction, Bass Pro secured $1.8 billion in financing from the merchant banking division of Goldman Sachs and $600 million from the private equity firm Pamplona Capital Management.

“However,” Moody’s added, “the review for downgrade is based upon Moody’s expectation for a sizable increase in debt levels to fund the remaining portion not covered by the finance asset sales.”

Moody’s said its rating review will focus on the level of integration risk associated with the sizable acquisition, size and timing of any potential synergies, amount of debt needed and expected time to deleverage once the deal closes, as well as the impact the transaction will have on the company’s ongoing financial policy decisions including, but not limited to, shareholder distributions and further acquisitions. The review could extend longer than 90 days in the event of an FTC review of the transaction.

Bass Pro’s ratings under review included its Corporate-Family Rating at Ba3, its Probability-of-Default Rating at Ba3-PD, and Senior-Secured-Term Loan due 2020 at B1.

Photo courtesy Bass Pro Shops