Fitch Revises Meritor's Rating Outlook to Stable; Rates Convertible Notes
CHICAGO -- November 29, 2012
Fitch Ratings has affirmed Meritor Inc.'s (MTOR) Issuer Default Rating (IDR)
of 'B' and its various issue ratings. In addition, Fitch has revised the
company's Rating Outlook to Stable from Positive. Fitch also has assigned a
rating of 'B-/RR5' to MTOR's private placement of $250 million in convertible
senior notes due 2026. A full list of the rating actions follows at the end of
this release. MTOR's ratings apply to a $429 million secured revolving credit
facility; a $98 million secured term loan, and $1.0 billion of senior
The revision of MTOR's Rating Outlook to Stable from Positive is due to
persistently weak conditions in the global commercial truck and industrial
equipment markets, which has led to a decline in demand for the company's
products. Fitch now expects continued economic uncertainty in most of the
regions where MTOR operates will prolong the demand slump into at least the
next 12 to 18 months and delay the strengthening of MTOR's credit profile that
had been incorporated into the prior positive outlook. Although restructuring
actions taken by the company over the past year have fundamentally improved
its margin performance and ability to generate free cash flow, most credit
protection metrics are likely to weaken somewhat from current levels over the
coming year as the company continues to deal with weakened demand.
Supporting MTOR's 'B' IDR is the work that it has undertaken over the past
year to improve product pricing and reduce costs. These factors contributed to
the company posting a 6.1% Fitch-calculated EBITDA margin in fiscal year (FY)
2012, up slightly from 5.8% in FY 2011 despite a 4.4% decline in full-year
revenue. Fitch expects the company will post an EBITDA margin in the 6% range
in FY 2013, as well, despite its public guidance that revenue in the year will
fall further to about $4 billion. It is notable that these are the strongest
margins that the company has produced since well before the last recession and
additional restructuring actions that the company is currently contemplating
are likely to result in further margin growth over the intermediate term.
Proceeds from the new convertible notes offering will be used to repurchase or
redeem existing debt in MTOR's capital structure and for general corporate
purposes. Fitch expects that proceeds will be targeted primarily toward
reducing the outstanding principal on the company's $250 million in 8 1/8%
notes due 2015 and/or its $300 million in 4.625% convertible notes due 2026.
MTOR's secured credit facility (comprised of the term loan A and revolver),
which matures in April 2017, includes a 'springing maturity' provision that
accelerates its maturity to June 2015 if more than $100 million in principal
is outstanding on the 8 1/8 notes on June 1, 2015. Likewise, the credit
facility's maturity will be accelerated to November 2015 if, on Nov. 1, 2015,
more than $100 million in principal is outstanding on the company's 4.625%
convertible senior notes and its share price is below the notes' conversion
price of $20.98. The issuance of the new convertible notes will therefore help
MTOR address a portion of this significant intermediate-term debt obligation.
MTOR has Board of Directors approval to repurchase up to $150 million in
public debt, including up to $50 million prior to Dec. 15, 2012.
Although the Stable Outlook reflects Fitch's expectation that MTOR's ratings
will not change in the near term, over the longer term Fitch could upgrade the
ratings if market conditions strengthen and continued restructuring actions
lead to higher margins, increased free cash flow and stronger credit
protection metrics. In particular, Fitch will look for the company to begin
producing positive free cash flow on a sustained basis and for leverage
(debt/Fitch-calculated EBITDA) to fall below 4.0 times (x) for an extended
period. On the other hand, Fitch could undertake a negative rating action on
MTOR if the global commercial truck and industrial markets materially
deteriorate further, resulting in a meaningful erosion of the company's
liquidity and a substantial weakening of its credit profile.
As noted above, revenue in FY 2012 declined 4.4%, but the rate of decline
increased sharply through the course of the year, with revenue down 19% in the
fiscal fourth quarter. Declines were experienced in all of the company's
segments, with economic uncertainty affecting demand in the Commercial Truck
and Aftermarket & Trailer segments and sluggish demand for industrial
equipment in China driving down revenue in the Industrial segment. Revenue is
forecasted to remain weak through much of FY 2013 absent a near-term catalyst
to drive a meaningful pickup in global demand. Also pressuring demand in FY
2013 will be the ramp-down of the U.S. Military's Family of Medium Tactical
Vehicles (FMTV) program, which will slow orders for some of MTOR's
MTOR has responded to the weaker market conditions by undertaking a number of
margin-enhancing initiatives over the past year. On the revenue side, the
company moved to a more value-based pricing approach with its commercial truck
customers and improved the material cost recovery mechanisms in its commercial
agreements. On the cost side, the company exited its trailer business in
Europe and transferred its manufacturing facility in France to Renault Trucks
SAS. The company also has reduced the ranks of its executive staff and noted
earlier this month that it will reorganize its operating units, folding the
Industrial segment into the Commercial Truck segment, which will result in the
reduction of another vice president position. In response to the continued
weakness in market conditions, the company mentioned earlier this month that
it will embark on a further restructuring of its operations, part of which
will include the elimination of a further 475 employee positions and the
closure of a remanufacturing plant in Canada.
MTOR continues to have solid financial flexibility. The company's liquidity
position at Sept. 30, 2012, was relatively strong and included $257 million in
cash and cash equivalents, $428 million of revolver availability and $100
million of receivables securitization facility availability. Cash obligations
tied to debt maturities are minimal over the next two years, although, as
noted earlier, obligations in FY 2015 and FY 2016 could be substantial. Free
cash flow, including cash restructuring costs, was modestly negative in FY
2012 at ($12) million and is likely to be roughly breakeven in FY 2013 before
accounting for cash restructuring costs. Notably, the FY 2012 figure included
$25 million of discretionary pension contributions, which brought
contributions for the full FY to $102 million. The company estimates that FY
2013 pension contributions will be $73 million.
As of the end of FY 2012, the face value of MTOR's balance sheet debt stood at
$1.1 billion, in line with the level at the end of FY 2011. Combined with
Fitch-calculated EBITDA of $269 million in FY 2012 that was flat with the FY
2011 level, credit protection metrics were unchanged year-over-year, with
Fitch's calculation of leverage at 4.1x at Sept. 30, 2012, and EBITDA interest
coverage at 2.8x the same as at Sept. 30, 2011. Credit protection metrics are
likely to weaken in FY 2013, with Fitch-calculated leverage potentially
exceeding 4.5x temporarily before demand eventually picks up and the company
gains traction on its new restructuring programs.
Fitch notes that its calculation of EBITDA differs from the MTOR's 'Adjusted
EBITDA' calculation, primarily because Fitch's figures do not include equity
in earnings of affiliates, while MTOR's figures include those earnings. Equity
in earnings of affiliates was $52 million in FY 2012, down from $70 million in
FY 2011. In addition to its balance sheet debt, MTOR utilizes several
off-balance sheet factoring and receivables securitization programs, and these
sales are not included in the leverage figures above. As of Sept. 30, 2012,
MTOR had utilized $255 million of off-balance sheet program availability, of
which $248 million was through committed facilities related to receivables
from AB Volvo.
MTOR's pension plans remain substantially underfunded. As of Sept. 30, 2012,
the company's global plans were 74% funded, with a shortfall of $529 million.
The company's U.S. plans, however, were only 66% funded, with a projected
benefit obligation that exceeded the value of plan assets by $448 million. The
substantial underfunded position of MTOR's pension plans continues to weigh on
the ratings, as low interest rates and the company's election to utilize the
funding relief provided by the Pension Relief Act of 2010 have translated into
significantly higher expected cash contribution requirements over the next
several years. In FY 2012, MTOR contributed $102 million to its global plans,
including $25 million of voluntary contributions. For FY 2013, the company has
projected that required contributions to its global plans will be $73 million.
Over the longer term, an eventual rise in interest rates will help to reduce
MTOR's pension contribution requirements, although there will be a lag of over
one year before any rate increase results in a decline in the level of
The rating of 'BB/RR1' on MTOR's secured credit facilities reflects their
substantial collateral coverage and outstanding recovery prospects, estimated
in the 90% to 100% range, in a distressed scenario. Collateral for the
revolver and term loan includes hard assets, accounts receivable, intellectual
property and investments in certain subsidiaries. As of Sept. 30, 2012, MTOR
valued the assets backing the facility at $611 million. The rating of 'B-/RR5'
on the company's unsecured notes (including the proposed convertible notes)
reflects Fitch's expectation that recovery would be below average, in the 10%
to 30% range, in a distressed scenario. The lower level of expected recovery
for the unsecured debt is due, in part, to the substantial amount of
higher-priority secured debt in MTOR's capital structure, including the
potential for a full draw on both the secured revolver and the U.S. accounts
receivable securitization facility.
WHAT COULD TRIGGER A RATING ACTION
Positive: Future developments that may, individually or collectively, lead to
a positive rating action include:
--A decline in leverage to below 4.0x for a sustained period;
--An ability to produce positive free cash flow on a consistent basis;
--An increase in margins as a result of restructuring actions.
Negative: Future developments that may, individually or collectively, lead to
a negative rating action include:
--A material deterioration in the global commercial truck or industrial
--An unexpected acquisition that leads to an increase in leverage;
--An increase in debt to fund shareholder-friendly activities.
Fitch has taken the following rating actions on MTOR:
--IDR affirmed at 'B';
--Secured credit facility rating affirmed at 'BB/RR1';
--Senior unsecured rating affirmed at 'B-/RR5';
--New convertible senior notes due 2026 rating assigned at
--The Rating Outlook has been revised to 'Stable' from 'Positive.'
Additional information is available at www.fitchratings.com. The ratings above
were unsolicited and have been provided by Fitch as a service to investors.
Applicable Criteria and Related Research:
--'Corporate Rating Methodology' (Aug. 8, 2012);
--'Recovery Ratings and Notching Criteria for Non-Financial Corporate Issuers'
(Nov. 13, 2012);
--'Treatment and Notching of Hybrids in Nonfinancial Corporate and REIT Credit
Analysis' (Dec. 15, 2011);
--'Evaluating Corporate Governance' (Dec. 13, 2011).
Applicable Criteria and Related Research:
Corporate Rating Methodology
Recovery Ratings and Notching Criteria for Non-Financial Corporate Issuers
Treatment and Notching of Hybrids in Nonfinancial Corporate and REIT Credit
Evaluating Corporate Governance
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Stephen Brown, +1-312-368-3139
Fitch, Inc., 70 West Madison Street
Chicago, IL 60602
Craig D. Fraser, +1-212-908-0310
John C. Culver, CFA, +1-312-368-3216
Brian Bertsch, +1-212-908-0549
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