Fitch affirms Toll Brothers' issuer default rating at BBB-; outlook stable
September 12, 2011
– Fitch Ratings has affirmed its ratings for Toll Brothers, Inc., including the company's Issuer Default Rating (IDR) at 'BBB-'. The Rating Outlook is Stable. A complete list of ratings follows this release.
Toll's ratings and Outlook reflect the company's well-entrenched market position as the pre-eminent public builder of luxury homes, the successful execution of its operating model that has produced one of the better margins within the industry over a cycle and relatively stable debt-protection measures despite significant erosion in profitability during the extended downside of this cycle. The company's liquidity position provides a buffer and supports the current ratings. Significant insider ownership of 15.6% aligns management's interests with the long-term financial health of Toll.
Risk factors include the cyclical nature of the homebuilding industry; the volatility in the value of Toll's extensive land holdings (some of which will be developed over an extended period of time); and the company's primary focus on the luxury housing segment of the market which, although diversified geographically and by product type across many niches within the urban and suburban luxury market, is not as broad as the first-time and first-step trade-up segments.
As expected, the housing recovery has been irregular so far and to date quite anemic. Various housing and related statistics appear to have bottomed in early to mid-2009. Since then the on, then off, then on again federal housing credit at times spurred or at least pulled forward housing demand. With the U.S. economy moving from recession to expansion in the third quarter of 2009, plus very attractive housing affordability and government incentives, housing was jump-started. However, faltering consumer confidence, among other issues, has restrained the recovery so far.
The public homebuilders were generally unprofitable in the calendar first quarter (excluding non-cash real estate charges) and revenues trailed a year ago levels. That was also the case in the calendar second quarter. Builder comparisons ease in the third and fourth quarters. If the economy continues to modestly advance and employment edges up, macroeconomic housing metrics should, for the most part, remain at current levels through the end of this year.
Fitch currently projects new single-family housing starts will drop 13.1% in 2011 following 5.8% growth in 2010. After falling 14.1% in 2010, new home sales are forecast to decrease about 7% in 2011. Fitch expects existing home sales to slip 2% in 2011 after a 4.8% decline in 2010. In a moderately growing economy in 2012, housing metrics could modestly expand, off a very depressed base.
Toll successfully managed its balance sheet during the severe housing downturn, allowing the company to accumulate cash as it pared down its inventory. At July 31, 2011, Toll had cash of $890.1 million and marketable U.S. Treasury securities totaling $294.3 million. During the past two years Toll added to its land position, supported by its strong liquidity. During the third quarter (ended July 31, 2011), the company's lot count increased sequentially by 250 and expanded by 360 lots year-over-year. At the end of the July 2011 quarter, Toll controlled 36,185 lots, 84.3% of which are owned with the remaining 15.7% controlled through options. This represents a 14.2-year supply of total lots controlled and an 11.9-year supply of owned land based on trailing 12-month deliveries.
Despite its long land position, the company continues to look for opportunities to tie-up land at attractive prices. Fitch is comfortable with this strategy given the company's 44-year track record, cash and liquidity position, debt maturity schedule, proven access to the capital markets, and management's demonstrated discipline in pulling back on its land and development activities and improving liquidity as the economy and housing contract.
Toll reported positive cash flow from operations for the first nine months of fiscal 2011 ($46.5 million, including a second quarter tax refund of $154.3 million), as the company continued its land acquisition activities. For the latest 12 months ended July 31, 2011, cash flow from operations totaled a negative $37.3 million (including the 2011 tax refund).
Negative cash flow is typical in the early stages of a housing recovery for most of the large public builders. For all of fiscal 2011, Fitch expects the company to be slightly cash flow positive, including the tax refunds and reflecting substantial land and development spending during the year. Nevertheless, spending in 2011 may end up short of 2010's approximately $420 million level of expenditures for land and development.
In addition to its strong cash position, Toll has access to an $885 million revolving credit facility that matures in October 2014. At July 31, 2011, the company had no borrowings under the revolver, but had $107.5 million of letters of credit outstanding under the facility. Toll had borrowing availability under the revolver of $777.5 million. At the end of the third quarter, the company had sufficient room under the facility's financial covenants.
Toll's debt maturities are well-laddered, with no major debt due until November 2012, when about $195 million of 6.875% senior notes mature. The next major debt maturity is in September 2013, when $142 million of 5.95% senior notes become due.
Leverage has typically remained under 45% over the past five years. At the end of its fiscal 2011 third quarter, leverage as measured by homebuilding debt to total capitalization was 38.0%. Taking into account its unrestricted cash position and marketable securities, net debt to capitalization was 13.8%. These leverage ratios are appropriate for the rating category, taking into account Toll's cash flow generation and operating risk profile.
The company's inventory to net debt ratio, at present 4.8 times (x), has consistently remained in excess of 2.0x, providing a healthy buffer during this housing downturn.
Future ratings and Outlooks will be influenced by broad housing market trends as well as company-specific activity, such as trends in land and development spending, general inventory levels, speculative inventory activity (including the impact of high cancellation rates on such activity), gross and net new order activity, debt levels, free cash flow trends and uses, and the company's cash position.
Fitch has affirmed the following ratings for Toll with a Stable Outlook.
--Issuer Default Rating (IDR) at 'BBB-';
--Senior unsecured debt at 'BBB-'.
Additional information is available at ' www.fitchratings.com '.
Applicable Criteria and Related Research:
--'Corporate Rating Methodology' (Aug. 26, 2011);
--'Liquidity Considerations for Corporate Issuers' (June 12, 2007).
Applicable Criteria and Related Research:
Corporate Rating Methodology
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