TEXT - Fitch cuts United Technologies ratings
May 22 - Fitch Ratings has removed United Technologies Corporation (UTC; NYSE: UTX) from Rating Watch Negative and downgraded the company's Issuer Default Rating (IDR) to 'A' from 'A+'. The Rating Outlook is Stable. Fitch has also affirmed UTC's short-term IDR at 'F1'. A detailed rating list follows at the end of this press release. The rating actions incorporate the pending acquisition of Goodrich Corporation for $18.4 billion, which is expected to occur in the middle of 2012. UTC plans to issue approximately $9 billion - $11 billion of debt, including mandatory convertible debt, to help fund the acquisition. UTC will also assume approximately $1.9 billion of Goodrich debt, net of cash, and divestiture proceeds and cash flow will cover the rest of the purchase price. The downgrade of UTC's long-term ratings reflects an increase in the company's debt and leverage associated with the Goodrich acquisition. The acquisition is expected to close in mid-2012 and is still subject to regulatory approval, which Fitch expects will be granted, although the timing is still uncertain. Fitch estimates UTC's debt/EBITDA could peak at nearly 3.0 times (x) on a pro forma basis at completion of the Goodrich acquisition. Fitch estimates debt/EBITDA will decline below 2.5x by the end of 2012 and below 2.0x before the end of 2013, which would still be weak for the rating. At March 31, 2012, debt/EBITDA was 1.1x. Leverage could decline more quickly if the global economy continues to recover and demand in UTC's aerospace markets enables the company to realize expected benefits from its acquisition of Goodrich. UTC intends to reduce leverage toward stronger levels by the end of 2014 using excess cash balances, higher earnings and cash flow, and net cash proceeds of approximately $3 billion from planned divestitures during the remainder of 2012. Fitch believes UTC's leverage reduction goals are achievable, but the timing could be affected by potential concerns related to demand in UTC's end markets, margin performance, and the pace of debt reduction. UTC plans to raise approximately $3 billion or more of net cash proceeds during the remainder of 2012 which would reduce high debt levels resulting from the Goodrich acquisition and minimize UTC's use of equity. Planned divestitures include Hamilton Sundstrand's (HS) industrial businesses, Pratt & Whitney's (P&W) Rocketdyne business, and Clipper Windpower. The Stable Outlook reflects UTC's financial flexibility and the current outlook in the company's key markets, especially commercial aerospace. UTC's ratings or Outlook could be negatively affected if leverage is not reduced to a level well below 2.0x within 12-18 months. Risks that could impair free cash flow and delay a reduction in leverage include concerns surrounding Europe, slower growth in China, challenges integrating Goodrich, event risk in UTC's aerospace markets, unexpected problems with P&W's Geared Turbofan (GTF) engine, low demand for military programs at P&W and Sikorsky, and large net pension obligations. Fitch believes the Goodrich acquisition will improve UTC's competitive position and offers opportunities to realize cost synergies as operations are integrated. Aside from normal integration risks, Fitch has few concerns about the operating performance of the combined businesses. Goodrich has a solid operating profile, and its acquisition by UTC is not expected to require material restructuring aside from modest actions to mesh the two organizations and realize cost synergies. Goodrich complements Hamilton Sundstrand's solid position as a supplier of aerospace and defense equipment and services, and there is only modest overlap between the companies' product lines. Goodrich has a large commercial aftermarket business and is well positioned on commercial aircraft programs and in certain areas with the Department of Defense. Fitch estimates free cash flow after dividends could be near $4 billion in 2012, similar to $4 billion of free cash flow in 2011. Free cash flow in 2012 includes the impact of lower pension contributions. Currently, UTC estimates it will contribute $100 million to foreign plans and has not indicated it will contribute to U.S. plans. In 2011, UTC contributed $1 billion to its plans, including $551 million of cash, down from $1.5 billion in 2010 which included $1.3 billion of cash. At the end of 2011, pension plans were underfunded by $3.6 billion (87% funded) compared to $2.1 billion at the end of 2010. The deterioration in the funded status largely resulted from a decline in the discount rate. UTC expects to reduce discretionary spending in the near term to mitigate the impact of the Goodrich acquisition on leverage and liquidity. The company has suspended share repurchases through at least the first three quarters of 2012 and plans to keep share repurchases at reduced levels for two years thereafter. It also expects to limit acquisition spending for several years, including a budget of $500 million in 2012, excluding Goodrich and IAE. UTC typically plans to spend several billion dollars each year for a mix of acquisitions and share repurchases. Today's rating action also reflects Fitch's expectation that P&W will complete its agreement to buy out Rolls-Royce's interest in International Aero Engines AG (IAE) for $1.5 billion, plus payments over 15 years. Payments will be based on hours flown by aircraft using V2500 engines produced by IAE which are in service when the transaction closes. V2500 engines are used for Airbus A320 family of aircraft. After closing, P&W will own 66% of IAE which will be consolidated with P&W's results. The agreement was reached in October 2011, and closing is anticipated by mid-2012. Orders for V2500 engines could eventually decline as new engine designs such as the GTF ramp up production, but the installed base should support substantial aftermarket business in subsequent years. P&W and Rolls-Royce also agreed to form a joint venture to develop engines for 120-230 seat commercial aircraft. The venture will focus on P&W's geared turbofan technology and on developing new engine technologies. The timing for closing of the new venture is uncertain. UTC's ratings incorporate the company's consistently strong operating performance, competitive market positions, geographic and product diversification, solid free cash flow, and ability to generate favorable margins through economic cycles. UTC's overall results at existing businesses could improve modestly as strong commercial aerospace markets and UTC's stable aftermarket business mitigate concerns about lower military spending, economic weakness in Europe and construction activity in the U.S. which remains near cyclical lows. Emerging markets represent an important source of sales growth. A sharp downturn in emerging regions, although not expected, would hurt local sales and could also affect developed economies which remain fragile. In 2011, growth slowed in three of the four BRIC countries including Brazil, China and India. China could slow again in 2012 due to efforts to control real estate prices and inflation. However, Fitch expects the BRIC countries will continue to grow faster than developed regions. UTC estimates it will incur $450 million of restructuring charges in 2012. The amount includes approximately $300 million at UTC and $150 million associated with the Goodrich acquisition. Total restructuring charges in 2012 could increase, partly reflecting streamlining at Otis in response to slower growth in China and weak conditions in Europe. UTC estimates it will incur approximately $500 million of one-time costs as it integrates Goodrich, including charges in 2012, and implements cost reductions which could total approximately $400 million annually after several years. Charges in 2012 will be partly offset by $600 million of one-time gains, including a $300 million tax settlement. At March 31, 2012, UTC's liquidity included cash and equivalents of $6.3 billion and $4 billion of committed bank facilities that mature in 2016. Liquidity was offset by $300 million of short-term debt and current maturities. UTC also has a $15 billion bridge facility and a $2 billion short term bank loan facility to assist with near-term financing for the Goodrich acquisition if needed. In addition to debt, UTC has contingent obligations related to its financing commitments for customers, primarily at the aerospace businesses. UTC's financing commitments are increasing from modest levels as demand in UTC's commercial aerospace markets continues to be strong. However, the commitments are spread out over several years which mitigates the impact. Fitch has downgraded UTC's long-term ratings as follows: --IDR to 'A' from 'A+'; --Senior unsecured bank credit facilities to 'A' from 'A+'; --Senior unsecured debt to 'A' from 'A+'. Fitch has affirmed UTC's short-term ratings as follows: --Short-term IDR at 'F1'; --Commercial paper at 'F1'.
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