TEXT-Fitch affirms Navistar's IDR at 'CCC', removes negative outlook

Tue Jan 22, 2013 10:34am EST

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Jan 22 - Fitch Ratings has affirmed the Issuer Default Ratings (IDR) for
Navistar International Corporation (NAV) and Navistar Financial
Corporation (NFC) at 'CCC' and removed the Negative Outlook on the ratings. The
removal reflects Fitch's view that immediate concerns about liquidity have
lessened, although liquidity remains an important rating consideration as NAV
implements its selective catalytic reduction (SCR) engine strategy. Other rating
concerns are already incorporated in the 'CCC' rating. A full list of ratings is
shown at the end of this release.

NAV's manufacturing cash balances of $1.5 billion at Oct. 31, 2012 were above
the high end of the range anticipated by Fitch. The improvement resulted from
NAV's issuance of approximately $200 million of equity near the end of its
fiscal year in October, lower inventory, and the collection of defense
receivables sooner than anticipated. However, the improving liquidity trend
could reverse during the first part of fiscal 2013 due to seasonal and one-time
factors before NAV's fundamental operating performance recovers.

NAV's liquidity includes $1.5 billion of manufacturing cash and marketable
securities and a $175 million ABL facility. This level of cash should be
sufficient to offset negative FCF while NAV introduces its heavy duty diesel
(HDD) SCR engines. Fitch expects manufacturing free cash flow (FCF) to be
negative through at least the first half of fiscal 2013 due to seasonally low
FCF; possible delays in deliveries due to the depletion of emissions credits;
and expenditures related to warranties, non-conformance penalties (NCPs), and
ongoing pension contributions.

Liquidity and FCF could be pressured if industry demand for trucks does not
improve, the company's market share does not recover, or the transition to SCR
technology is delayed. Current maturities of manufacturing long term debt were
modest at $172 million as of Oct. 31, 2012, but debt maturities exceed $1.5
billion in 2014, including $570 million of 3% convertible notes. The remaining
2014 maturities could be extended if NAV pays down or refinances the majority of
the convertible notes.

NAV finalized a supply agreement with Cummins Inc. in October 2012 for SCR
engines and emissions technology. NAV's transition to SCR emissions technology
appears to be on track within the expected time frame and cost. However, it
involves execution risk related to integrating the technology with NAV's
engines, and integrating Cummins' 15-liter engine in NAV's trucks. Execution
risks are mitigated by NAV's familiarity with Cummins engines. In December 2012,
NAV launched on time the ProStar with the Cummins ISX 15-liter engine, and is
scheduled to phase in 13-liter SCR engines beginning in April 2013, followed by
medium duty engines later in 2013 or 2014. NAV will require approval by the EPA
of its reconfigured emissions compliant engines.

Other rating concerns include the availability and use of emissions credits
which NAV estimates will be depleted during 2013 for its heavy HDD engines. In
addition, NAV is still working to achieve on-board diagnostics (OBD)
certification in 2013 for certain engines. As a result, there could be
occasional gaps in deliveries while NAV implements its revised engine strategy.
Such delays could slow a recovery in the company's market share, at least
temporarily. NAV's share in its traditional heavy and medium truck and bus
markets was 23% in fiscal 2012 and remains well below the peak level of 36% in
2009. Emission credits are a particular concern in 10 states that use California
Air Resources Board (CARB) standards which do not allow the use of NCPs. There
are sufficient emissions credits to support medium duty engine sales into 2014.

EBITDA in 2012 was negative due to higher warranty costs, a decline in military
vehicle sales, lower engine sales related to truck volumes and demand in South
America, and higher material costs. Warranty expense more than doubled in 2012
to $895 million, mostly related to complexity surrounding engine emissions
regulations. The charges included more than $400 million of adjustments to
pre-existing warranties. As NAV incorporates improvements in newer engines,
warranty expense should decline in 2013, barring additional unexpected quality
problems. However, cash charges are likely to increase in the near term as NAV
makes repairs related to accrued warranty liabilities.

Fitch estimates EBITDA could turn positive during 2013 if NAV executes its
revised engine strategy on time and begins to rebuild market share. In order to
improve its operating performance and preserve cash, NAV plans to limit capital
spending, cut back on investments associated with NAV's global expansion, and
redirect product development to its engine strategy. Restructuring should also
help control NAV's cost structure over the long term, including workforce
reductions. NAV estimates these actions will reduce its cost structure by $175
million beginning in 2013.

Pension contributions represent a recurring use of cash, but required
contributions during the next few years should be slightly lower than originally
anticipated due to MAP-21 legislation passed in 2012. The legislation allows a
portion of required contributions to be temporarily deferred, but the total
obligation is unaffected. NAV estimates it will be required to contribute $166
million in 2013 and at least $200 million annually between 2014 and 2016. NAV
contributed $157 million in 2012. NAV's net pension obligations increased to
$2.1 billion at the end of fiscal 2012 from $1.8 billion in 2011.

Fitch could take a positive rating action if manufacturing FCF returns toward a
sustainable breakeven level during 2013, the SCR engine strategy is implemented
on time, the company's market share begins to recover, and earnings improve
steadily.

Fitch could take a negative rating action if NAV's transition to SCR emissions
technology is delayed or requires substantial cash expenditures, or FCF and
liquidity do not begin to recover after the middle of fiscal 2013. If sales
volumes are low or margins remain pressured, FCF could be impaired, making it
difficult to fund capital expenditures, pension contributions and higher
interest expense associated with increased debt levels. In addition, five
investors have accumulated, in aggregate, more than 50% of NAV's common shares,
which introduces uncertainty about long-term operating and financial policies.
The ratings could also be negatively affected depending on the outcome of the
SEC's investigation of the company's accounting and disclosure practices.

The Recovery Rating (RR) of '1' for Navistar Inc.'s $1 billion term loan
supports a rating of 'B', three levels above NAV's IDR, as the loan can be
expected to recover more than 90% in a distressed scenario based on a strong
collateral position. The RR '5' for NAV's senior unsecured debt results in a
rating of 'CCC-', one notch below the IDR, and reflects poor recovery prospects
in a distressed scenario. The RR '6' for the senior subordinated convertible
notes reflects a lower priority relative to NAV's senior unsecured debt.

Fitch believes NFC is core to NAV's overall franchise, and the IDR of the
finance subsidiary is directly linked to that of its ultimate parent due to the
close operating relationship and importance to NAV, as substantially all of
NFC's business is connected to the financing of new and used trucks sold by NAV
and its dealers. The linkage also reflects the potential that, under a stress
scenario, NAV may seek to extract capital and/or unencumbered assets from NFC.
The relationship between NAV and NFC is formally governed by the Master
Intercompany Agreement. Also, there is a requirement referenced in NFC's credit
agreement requiring Navistar, Inc. or NAV to own 100% of NFC's equity at all
times.

Fitch views NFC's operating performance and overall credit metrics as neutral to
NAV's rating. NFC's performance has not changed materially compared to Fitch's
expectations, but its financial profile remains tied to NAV's operating and
financial performance. NFC's profitability declined further in 2012 due to the
lower net interest margin earned from the continued reduction of NFC's retail
portfolio balance.

NFC's asset quality has remained stable, reflecting the mature retail portfolio,
which is in run-off. Charge-offs and provisioning volatility has declined as NFC
focuses on its wholesale portfolio, which historically has experienced lower
loss rates relative to the retail portfolio.

Absent material dividends to the parent, Fitch expects NFC's leverage to improve
and stay below historical levels due to reduced financing needs. Balance sheet
leverage, as measured by total debt to equity fell to a historical low of 3x in
2012. Management believes NFC can more effectively operate with a leverage
target between 5x and 6x, which is consistent with other Fitch-rated captives.
The company may also reestablish dividends from NFC to NAV in efforts to
maintain adequate asset coverage and leverage, as well as to enhance liquidity
at NAV in the medium to longer term.

In June 2012, NFC completed a securitization of roughly $500 million and used
proceeds to repay outstanding borrowings on a previous securitization and a
portion of its revolving bank credit facility. In addition, NFC refinanced a
$750 million wholesale facility in August 2012. Fitch believes the refinancing
of NFC's debt facilities may help to mitigate potential near-term liquidity
concerns at NFC.

The RR of '5' for NFC's senior secured credit facilities support a rating of
'CCC-', one notch below the IDR, which reflects poor recovery prospects in a
distressed scenario.

As of Oct. 31, 2012, Fitch's ratings covered approximately $3 billion of debt at
NAV and $1.9 billion of outstanding debt at the Financial Services segment, the
majority of which is at NFC.

Fitch has affirmed the following ratings:

Navistar International Corporation
--Long-term IDR at 'CCC';
--Senior unsecured notes at 'CCC-'/'RR5';
--Senior subordinated notes at 'CC'/'RR6'.

Navistar, Inc.
--Long-term IDR at 'CCC';
--Senior secured bank term loan at 'B'/'RR1'.

Cook County, Illinois
--Recovery zone revenue facility bonds (Navistar International Corporation
Project) series 2010 at 'CCC-'.

Illinois Finance Authority (IFA)
--Recovery zone revenue facility bonds (Navistar International Corporation
Project) series 2010 at 'CCC-'.

Navistar Financial Corporation
--Long-term IDR at 'CCC';
--Senior secured bank credit facilities at 'CCC-'/'RR5'.

Additional information is available at 'www.fitchratings.com'. The ratings above
were solicited by, or on behalf of, the issuer, and therefore, Fitch has been
compensated for the provision of the ratings.

Applicable Criteria and Related Research:
--'Corporate Rating Methodology' (Aug. 8, 2012);
--'Parent and Subsidiary Rating Linkage' (Aug. 8, 2012);
--'Finance and Leasing Companies Criteria' (Dec. 11, 2012);
--'Global Financial Institutions Rating Criteria' (Aug. 15, 2012);
--'Recovery Ratings and Notching Criteria for Non-Financial Corporate Issuers'
(Nov. 13, 2012);
--'Recovery Ratings for Financial Institutions' (Aug. 15, 2012).

Applicable Criteria and Related Research:
Corporate Rating Methodology
Parent and Subsidiary Rating Linkage
Finance and Leasing Companies Criteria
Global Financial Institutions Rating Criteria
Recovery Ratings and Notching Criteria for Non-Financial Corporate Issuers
Recovery Ratings for Financial Institutions
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