Fitch Affirms Spansion's IDR at 'B-'; Outlook Remains Negative.

NEW YORK -- Fitch has affirmed Spansion Inc.'s (Spansion) (Nasdaq: SPSN) Issuer Default Rating (IDR) of 'B-' and $175 million senior secured revolving credit facility due 2010 at 'BB-/RR1'. The following ratings have been downgraded due to lower recovery prospects as a result of Spansion's issuance of additional secured debt:

--$225 million of 11.25% senior unsecured notes due 2016 to 'CCC+/RR5' from 'B-/RR4'; and

--$207 million of 2.25% convertible senior subordinated debentures due 2016 to 'CCC/RR6' from 'CCC+/RR5';

Fitch also has established a rating of 'BB-/RR1' on Spansion's $500 million senior secured term loan due 2012. The Rating Outlook remains Negative. Approximately $1.1 billion of total debt is affected by Fitch's actions.

The Negative Rating Outlook reflects Fitch's expectations that:

--Spansion's currently limited financial flexibility will be pressured by significant capital expenditures planned for 2007, which Fitch estimates will result in approximately negative $500 million of free cash flow for the year;

--debt levels will likely increase to finance these investments, which in the absence of stronger than anticipated operating metrics could result in the company breaching its current leverage covenant for the $500 million senior secured term loan facility; and

--pricing pressures across Spansion's end markets will continue through 2007, constraining meaningful gross margin expansion and, therefore, the company's ability to achieve operating profitability. While recognizing that Spansion's capital spending is being accelerated to support solid unit growth prospects and needed to meet its longer-term cost reduction objectives, Fitch's concerns center on the potential for even moderate gross margin erosion to stress Spansion's liquidity position.

Additionally, the affirmation of the IDR continues to reflect substantial capital expenditures and research and development (R&D) investments (approximating 25% of revenues on a combined basis) beyond the near-term and Spansion's lack of diversification and size relative to key competitors. Fitch believes these larger and more diversified providers can more easily absorb operating losses and setbacks in technology roadmaps and process technology migrations.

The ratings are supported by:

--Fitch's expectations that Spansion's revenue growth will meet or exceed that of the NOR flash memory market (approximately 9%) over the next few years, due to continued penetration of the company's MirrorBit and ORNAND architectures, strong demand for higher-density products, and solid unit growth in handsets, which represents the largest component of the wireless market for NOR flash memory;

--expectations the company's gross margins will be somewhat less susceptible to significant erosion in 2007, given strong anticipated unit growth, high utilization rates exiting 2006, lower cost structure from upgrading its back-end test equipment, and more flexible capacity due to its foundry relationships, including its foundry relationship with Fujitsu upon closing the sale of its JV1 and JV2 facilities during the second quarter of fiscal year 2007;

--established relationships with a diverse customer base, including leading wireless handset makers and consumer and automotive electronics original equipment manufacturers (OEM); and

--leading share positions in the NOR flash memory market, which Fitch believes is more defensible due to the higher barriers to entry resulting from significant investment requirements.

The current recovery ratings and notching reflect Fitch's recovery expectations for its creditors under a distressed scenario, which Fitch believes will be maximized under a reorganization rather than liquidation scenario. The recovery ratings incorporate:

--Spansion's higher debt levels and greater proportion of secured debt within the capital structure;

--Fitch's reduction of the assumed reorganization multiple to 4 times (x) from 5x, reflecting Spansion's current market capitalization;

--the company's 80% operating EBITDA growth from 2005 to 2006; and

--Fitch's less severe discount to operating EBITDA (estimates distressed operating EBITDA) to 55% from 80%, supported by tightened financial covenants and expectations for a less irrational but still pressured pricing and operating environment over the next few years. Fitch believes Spansion's $675 million of secured facilities, including the $500 million senior secured term loan and assumption of a fully drawn $175 million revolving credit facility, would recover 100% in a reorganization scenario, resulting in a rating of 'RR1'. The waterfall analysis provides 11%-30% recovery for the approximately $225 million of rated senior unsecured debt, resulting in a recovery rating of 'RR5', and 0%-10% recovery for the approximately $207 million of senior subordinated notes, resulting in a recovery rating of 'RR6'.

As of Dec. 31, 2006, Fitch believes Spansion's liquidity was sufficient to meet near-term financial obligations and supported by:

--approximately $886 million of cash and cash equivalents and

--approximately $236 million of available borrowings under the company's various existing credit facilities (subject to certain borrowing base and covenant limitations), including Spansion's undrawn $175 million senior secured U.S. revolving credit facility expiring 2010. Fitch's expectations for cash burn of approximately $500 million in 2007 should be partially offset by approximately $150 million of gross proceeds from Spansion's sale of its JV1 and JV2 manufacturing facilities to Fujitsu in the second fiscal quarter of 2007. Nonetheless, Fitch expects the company may seek additional external funding, given expectations for significant capital expenditures in 2008.

Total debt at Dec. 31, 2006 was approximately $1.1 billion and consisted of:

--$500 million senior secured term loan facility expiring 2012;

--$225 million of 11.25% senior notes due 2016;

--$207 million of 2.25% convertible senior subordinated debentures due 2016;

--obligations under capital leases; and

--borrowings under various foreign credit facilities.

Fitch's Recovery Ratings (RR) are a relative indicator of creditor recovery prospects on a given obligation within an issuers' capital structure in the event of a default. A broad overview of Fitch's RR methodology as it relates to specific sectors can be found at www.fitchratings.com/recovery.

Fitch's rating definitions and the terms of use of such ratings are available on the agency's public site, www.fitchratings.com. Published ratings, criteria and methodologies are available from this site, at all times. Fitch's code of conduct, confidentiality, conflicts of interest, affiliate firewall, compliance and other relevant policies and procedures are also available from the 'Code of Conduct' section of this site. The ratings above have been initiated by Fitch as a service to investors.