Fitch Ratings downgraded eight public builders today, citing the "current difficult housing environment" and its analysts' projections that new-sales will continue to slump into 2009. But analysts also expressed concerns about narrowing margins, rising debt levels, and, thanks to inventory and land write offs, shrinking net worth values at many of the downgraded builders. That was the case at D.R. Horton, The Ryland Group, Meritage Homes Corp., Lennar Corp., and M/I Homes, which now have lower credit ratings from Fitch.
But other firms are facing more specific challenges, which were noted by Fitch analysts Robert Curran and Robert Rulla in their reports. Among these builders is Centex. "The ratings changes also reflect negative trends in Centex's operating margins, further deterioration in credit metrics (especially interest coverage and debt/EBITDA ratios) and erosion in tangible net worth from non-cash real estate charges and more recently operating losses, which has led to untypically high debt leverage. As of March 31, 2008, Centex's leverage as measured by debt to capitalization was 59 percent, which is higher than management's historical targeted range of approximately 35 percent to 45 percent," according to the analysts.
Pulte also took a hit. "Pulte has an established track record of financial discipline as leverage remained below 45 percent (on an annual basis) for the past 16 years. However, the erosion of shareholder's equity from non-cash real estate charges has led to untypically high leverage. As of March 31, 2008, Pulte's leverage as measured by debt to capitalization was 49 percent and its net debt to capitalization was 40 percent. The company's long-term targeted leverage range is 35 percent to 45 percent. Management is in position to adapt to changes in economic conditions without exposing creditors to increased risks, given Pulte's operational profile and financial flexibility," the analysts wrote.
Finally, Beazer Homes remains on a "rating watch negative," which "reflects Beazer's exposure to liquidity risk given ongoing negotiations with its bank group regarding modifications to its revolving credit agreement. Beazer has obtained a limited waiver which relaxed through June 30, 2008 its minimum consolidated tangible net worth and maximum leverage covenants."
Not everyone got downgraded. Fitch left other public builders' credit ratings unchanged, affirming ratings for the following companies:
M.D.C. Holdings (Richmond American)
"Ratings for M.D.C. are based on the company's execution of its business model in the current housing correction and conservative land policies. M.D.C. has noticeably improved its capital structure, pursued conservative capitalization policies, and has positioned itself to withstand a meaningful housing downturn. Significant insider beneficial ownership of 26 percent aligns management's interests with the long-term financial health of the company. The rating is balanced somewhat by the cyclical nature of the housing industry and M.D.C.'s size."
NVR "The ratings reflect the strong credit protection measures, solid free cash flow generation, and balance sheet liquidity that results from its unique operating model, and the company's capacity to withstand a meaningful housing downturn."
KB Home "The ratings reflect KB Home's execution of its business model. The ratings also take into account the company's primary focus on entry-level and first-step trade-up housing (the deepest segments of the market), its conservative building practices, and effective utilization of return on invested capital criteria as a key element of its operating model. In recent years, KB Home has improved its capital structure and increased its geographic diversity and has better positioned itself to withstand a meaningful housing downturn."
"The combination of the debt and equity issuance, together with the strong cash flow expected for the second half of the year, should provide the company with sufficient liquidity to fund working capital needs without reliance on the revolving credit facility."
"The affirmations reflect Toll Brothers' well-entrenched market position as the pre-eminent builder of luxury homes, its seasoned operating model that has produced often the best margins within the industry, relatively stable debt-protection measures, and its consistently profitable track record through past home building cycles."
Moody's also downgraded Pulte Homes, Centex, Ryland Group, D.R. Horton, KB Home, and Lennar this week.
Alison Rice is senior editor, online, for BUILDER magazine.