S&P: D. R. Horton Inc. Ratings Raised To 'BBB-' From 'BB+' On Better-Than-Expected Performance; Outlook Stable
At the same time, consistent with our issue-level rating methodology for investment-grade issuers, we raised the rating on the company's senior unsecured notes to 'BBB-' from 'BB+'.
Our upgrade reflects our view that Horton's sales and EBITDA will show continued improvement over the next 24 months because of the continued stable to moderately improved market conditions in most of its markets. As a result, we expect debt to EBITDA to decline to about 1.5x in fiscal 2017, a level we consider good for our assessment of an intermediate financial risk profile.
Our ratings on Horton incorporate our view of the company's satisfactory business risk profile, which reflects Horton's position as the largest U. S. homebuilder based on 2015 housing revenue and home closings. Our ratings also reflect Horton as the number one builder in 13 of the top 50 U. S. housing markets and a top five builder in 30 of the largest markets. We believe this allows some pricing power with suppliers and labor and is also a benefit when competing for land parcels. The company's broader product offerings through its growing Express Homes brand, targeting the true entry-level buyer, and its Emerald brand, targeting the luxury home buyer, should also serve to produce relatively more stable operating results in the future.
While D. R. Horton has a track record of success in managing its debt levels through the housing cycle, we expect that there will be future volatility in the company's cash flow and leverage ratios due to the inherent cyclicality in the homebuilding industry. As a result, even though we expect D. R. Horton to maintain ratios in the modest category (i. e., debt to EBITDA of less than 2x) we have adjusted our assessment of the company's financial risk to intermediate to account for future earnings volatility.
Our intermediate financial risk assessment also incorporates the company's stated policy of maintaining debt to capital at or below 40% and maintaining at least $500 million of cash on its balance sheet.
Under our base-case scenario, we expect higher revenue and EBITDA for D. R. Horton in fiscal year 2017. Our base-case scenario assumes:U. S. housing starts to climb roughly 16.5% in 2017, to about 1.4 million units;We estimate D. R. Horton will generate in excess of $13 billion of consolidated revenue in 2017 due to an increase in deliveries and slightly higher average sale prices;Home sale deliveries of about 45,000 homes;Homebuilding margins of about 20%; andLand investment and working capital needs are funded through existing cash reserves and internally generated cash flow rather than additional debt issuance. Based on these assumptions, we arrive at the following credit measures:Debt to EBITDA declines to about 1.5x by the end of fiscal 2017.EBITDA to interest coverage of about 7x. D.R. Horton is the leading homebuilder in the U. S. as measured by both revenues and deliveries (the company delivered 38,638 homes over the past 12 months ended June 30, 2016). With operations in 78 markets across 26 states, D. R. Horton carries the largest scale and geographic diversity in the homebuilding industry.
We view D. R. Horton's liquidity as exceptional to meet its needs over the next 12 months, based on the expectation that liquidity sources should exceed uses by at least 2x over the next 24 months.
Principal liquidity sources:Unrestricted cash and cash equivalents totaled $907 million on June 30, 2016;On June 30, 2016, the company had $880 million of availability (net of letters of credits and borrowings) under its $975 million revolving credit facility that matures September 2020; andAbout $900 million of funds from operations in 2017.Principal liquidity uses:Debt maturities include a total of $350 million of senior notes due May 2017;We expect land acquisition and development spending of about $3 billion in fiscal 2017;Working capital outflows of about $400 million in fiscal 2017;Capital spending of $90 million-$100 million in fiscal 2017; andCash dividends of about $150 million in fiscal 2017.COVENANTSThe revolving credit facility contains financial covenants requiring the maintenance of a minimum level of tangible net worth, a maximum allowable ratio of debt to tangible net worth, and a borrowing base restriction if our ratio of debt to tangible net worth exceeds a certain level. As of June 30, 2016, the company was in compliance with its covenants, and we expect it to remain compliant over the next 24 months.
The stable outlook reflects our expectation that D. R. Horton Inc. will continue to benefit from an improving housing market over the next two years and maintain leverage below 2x while continuing to use a moderate amount of debt to finance inventory and land investment.
We could take a negative rating action in the next 24 months if the housing market improves less than we expect or the company issues substantial debt to fund spending on land acquisition that is materially more aggressive than our forecast, such that debt to EBITDA approaches 3x and debt to capital approaches 45%, in line with our assessment of a significant financial risk profile. This could occur if our gross margins decline in excess of 500 basis points or our forecast EBITDA declines by at least 50%.
We believe a positive rating action is unlikely in the next 24 months. However, we could raise the rating if the housing market continues to recover and the company adheres to financial policies that will strengthen and maintain debt to EBITDA below 1.5x, in line with our assessment of a minimal financial risk profile.