Oct 12 - Fitch Ratings has upgraded Cummins, Inc.’s (CMI) Issuer Default Rating (IDR) and long-term debt ratings to ‘A’ from ‘A-'. The Rating Outlook is Stable. A full rating list follows at the end of this release.
The upgrade of CMI’s ratings incorporates the company’s strong operating profile, consistently low leverage, financial flexibility, and long term improvement in operating margins. The company recently announced that financial results would be weaker in 2012 than originally anticipated due to a slowing global economy. Fitch’s ratings take into consideration cyclicality in CMI’s end markets and the company’s demonstrated ability to generate positive free cash flow through a downturn.
Fitch expects that in the event of an economic downturn, CMI’s credit metrics could deteriorate modestly but remain at solid levels. Debt to EBITDA at July 1, 2012 was 0.31 times (x), which is lower than many other ‘A’ rated peers, and has been well below 1.0x during the past several years. Leverage would be lower when considering the impact of earnings from joint ventures which are excluded from Fitch’s calculation of EBITDA. Fitch anticipates CMI will continue to follow conservative financial policies which are important to its ability to cope with cyclicality in its capital goods markets.
Other credit strengths include the company’s leading positions in its core engine and power generation markets, geographic diversification, global distribution network, and technological capabilities. CMI’s engine business has material exposure to the heavy duty truck and medium duty truck and bus markets, but the company also provides engines and power generation equipment to a wide variety of industrial customers. CMI has effectively developed and implemented new engine technology that is increasingly important due to stricter emissions and fuel economy regulations. As a result, it is well positioned to meet changing global emissions requirements, demand for fuel efficiency, and a growing need for systems integration.
Joint ventures represent a material portion of CMI’s overall profitability. Investments in joint ventures are concentrated in CMI’s international and emerging-market engine businesses and in domestic distributors. Growth in emerging regions is driven by long-term infrastructure investment and demand for commodities. Economic weakness in these regions may affect joint venture results in the near term. Joint venture sales and income typically tend to be more stable than CMI’s fully-owned operations which have a more concentrated exposure to industrial and power generation markets in developed regions and to cyclical North American heavy-duty truck production.
Rating concerns include cyclicality in CMI’s truck and industrial end markets, as highlighted by the company’s recent reduction to its revenue and earnings forecast for 2012, and the risk of in-sourcing by CMI’s truck engine customers. Truck production has been higher in North America through much of 2012, but orders have declined steadily due to uncertainty about the economy and the U.S. budget. In addition, some industrial markets such as mining equipment and oil & gas and are experiencing lower activity, and demand is weak in Europe and certain emerging regions including Brazil and China. In the near term, these trends are likely to offset positive considerations including an aging truck fleet, stricter emissions regulations, and significant infrastructure investment in emerging regions which can be expected to support long term demand.
Fitch estimates free cash flow after dividends will decline compared to 2011 and could approach $600 million in 2012, before considering incremental investments in joint ventures. The decline compared to 2011 reflects higher working capital requirements, dividends, and capital expenditures which are being directed toward new product development and capacity expansion. CMI is also deploying cash for investments in joint ventures and acquisitions. Acquisitions totaled approximately $200 through the third quarter of 2012, including the purchase of emissions technology assets from Hilite International. CMI has increased its dividend payout materially in recent years to roughly $380 million on an annualized basis.
Pension plans are relatively well funded which supports CMI’s financial flexibility. At the end of 2011, U.S. plans, including unfunded plans, were underfunded by $152 million (more than 90% funded) while non-U.S. plans were slightly overfunded. CMI estimates it will contribute at least $130 million in 2012, of which $84 million ($73 million voluntary) had been contributed through the first six months.
Liquidity at July 1, 2012 included cash and marketable securities totaling $1.4 billion. A majority of CMI’s cash and securities are held outside the U.S.; Fitch believes a portion of overseas cash could be available with minimal tax liabilities or other constraints. Liquidity also included availability under a $1.24 billion four-year revolver which matures in 2014, most of which was available. Liquidity was offset by $58 million of loans payable within one year. Debt maturities are spread out, with no significant maturities scheduled before 2028.
Prospects for future positive rating actions are limited over the near to medium horizon due to CMI’s exposure to cyclical markets and uncertainty about the global economy. Fitch could take a negative rating action if the company’s operating performance deteriorates due to fundamental changes in the company’s operating profile. The ratings would not likely be affected solely by lower revenue and margins which would normally occur during a downturn in CMI’s markets. However, the ratings or Outlook could be lowered if CMI loses market share due to increased competition or outsourcing by customers, the company’s cost base increases materially, joint ventures require significant investment that impairs CMI’s cash flow or liquidity, or CMI encounters unforeseen difficulties introducing new technology. In addition, the ratings could be negatively affected if the company’s financial policies and cash deployment are more aggressive than in the past.
Fitch has upgraded the ratings for CMI as follows:
--IDR to ‘A’ from ‘A-';
--Senior unsecured credit facility to ‘A’ from ‘A-';
--Senior unsecured debt to ‘A’ from ‘A-'.