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Fitch Expects to Rate BorgWarner's Sr. Unsecured Notes Due 2020 'BBB'

^{Published on 2010-09-13 09:25:23 - Market Wire}
 

NEW YORK--([ BUSINESS WIRE ])--Fitch Ratings expects to assign a 'BBB' rating to BorgWarner Inc.'s (NYSE: BWA) $250 million issuance of senior unsecured notes due 2020.

BWA's Issuer Default Rating (IDR) is 'BBB', and a complete list of ratings follows at the end of this release. On a pro forma basis, approximately $1.3 billion of debt outstanding is covered by the ratings. The Rating Outlook is Stable.

The company is issuing new debt for general corporate purposes. At the end of the second quarter of 2010 (2Q'10), leverage was 1.7 times (x). On a pro forma basis, leverage increases to 2.1x which is close to the ratio at the end of the first quarter of 2010. Given BWA's history of free cash flow generation, high EBITDA margins and low leverage, Fitch continues to view the 'BBB' ratings as appropriate despite the higher debt levels resulting from this debt issuance.

Key ratings factors include the company's history of healthy EBITDA margins, solid cash generation, low leverage, and a healthy liquidity position; BWA's leading position as a supplier for engine and drivetrain parts; a portfolio of highly engineered products that are well-positioned for some key trends in the transportation industry; substantial net new business awards for the next few years; and good diversification by both customer and geography. During the automotive slump which began in late 2008 and continued through 2009, BWA successfully managed to cut costs and restructure its operations to preserve cash.

Concerns are focused on the company's exposure to Europe, BorgWarner's largest market. While the diverse revenue stream is viewed positively, the company's exposure to Europe may prove to be challenging in 2010. Fitch expects production of light vehicles to decline approximately 8%-12% due to the completion of the scrappage programs in Europe, although this is expected to impact BorgWarner less than other suppliers given its exposure to higher-end platforms with original equipment manufacturers (OEMs). Other concerns include continuing price pressures from OEMs and the cyclicality of the automotive sector.

The Stable Outlook reflects Fitch's expectations that global automotive production will rise in 2010 and that BWA's cost cutting efforts will benefit its EBITDA margins, which are strong relative to many other automotive suppliers. These factors along with the company's liquidity position support the ratings.

BWA's credit profile benefits from its portfolio of highly engineered products, which Fitch believes should support continued generation of double digit EBITDA margins. The company's products are designed to reduce emissions and increase fuel efficiency, and the company should benefit from trends toward smaller engines and lower fuel consumption. Over the next several years, requirements will only become stricter, and Fitch expects BWA to benefit from changes in regulations as the company's investments in research and development (R&D) should lead to more business wins. Over the last three years, spending on gross R&D has averaged 5.1% of revenues (net R&D was 4% of revenues). In late 2009, BWA announced it had net new business of $1.8 billion for delivery of products between 2010 and 2012. The majority of the new business was for turbochargers, a product which can significantly increase fuel efficiency. In addition, the new business awards should increase the company's presence in Asia, particularly China. Much of BWA's growth in Asia is expected to come from its joint ventures.

Despite the previously mentioned exposure to Europe, BWA's credit quality is supported by the company's geographic and product diversification. In 2009, approximately 80% of sales were for the company's engine segment, and the remainder of sales were for the drivetrain segment. Approximately 75% of the sales were for light vehicle applications, 17% for commercial trucks, bus, construction and agricultural vehicle manufacturers and the remaining 8% of sales were for the aftermarket. The company's two largest customers were VW/Audi (22% of sales) and Ford (12%). Europe accounted for 56% of sales in 2009 while the U.S. was 29% and Asia was 15%. As previously mentioned, Fitch expects to see 2010 light vehicle production in Europe decline; however, U.S. light vehicle production should increase from 10.4 million units to 11.4 million units, a 9.6% increase.

With healthy margins and moderate capital expenditures, BWA has a strong history of generating free cash flow. EBITDA margins have averaged 11.6% over the last four years, and they only fell to 9.1% during the automotive slump in 2009. Restructuring and headcount reductions benefited margins. Headcount was reduced by more than 5,000 (29.4%) from the end of 2007 to the end of 2009. Over the last four years, capital expenditures have averaged 5.7% of sales. The company plans to spend between $250 million and $275 million in 2010, which Fitch believes may be conservative. However, Fitch also believes that BWA has the financial flexibility to increase capital expenditures and resume dividend payments and still generate substantial positive free cash flow despite working capital requirements. BWA forecasts free cash flow (cash from operations less capital expenditures) to be approximately $250 million in 2010; Fitch believes this is an achievable target given the company's cost cutting achievements and improvement in light vehicle demand. Following the April 2010 acquisition of Dytech ENSA, Fitch does not expect significant acquisition activities in the balance of the year.

Share repurchases resumed in 2Q'10 and were significant. BWA used $155 million of cash to repurchase shares to prefund a portion of the $374 million of convertibles due 2012. During July, BWA's board authorized another share repurchase program for another five million common shares. Fitch assumes that the company will continue to use cash to purchase shares.

Liquidity at the end of 2Q'10 was $738 million, which was comprised of $188 million in cash and $550 million available on its unsecured revolver (no letters of credit were utilized on the facility). BWA also has an accounts receivable securitization program which just increased from $50 million to $80 million. At the end of 2Q'10, the program was $50 million and was fully utilized; this facility matures in December 2012.

There are no debt maturities until 2012 when $374 million of the senior unsecured convertibles notes mature. The company's U.S. pension plan is 85% funded; the underfunded status is $47 million. In 2010, BWA expects to contribute $15 to $25 million to the U.S. plan.

Fitch currently rates BWA as follows:

--IDR 'BBB';

--Senior unsecured revolving credit facility 'BBB';

--Senior unsecured notes 'BBB';

--Senior unsecured convertible notes 'BBB'.

Additional information is available at '[ www.fitchratings.com ]'.

Applicable Criteria and Related Research:

--'Corporate Rating Methodology', Aug. 16, 2010;

--'Rating Automotive Supply Companies', June 8, 2010;

--'BorgWarner Inc: Full Rating Report', July 1, 2010.

Applicable Criteria and Related Research:

Corporate Rating Methodology

[ http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=546646 ]

Rating Automotive Supply Companies: Sector Credit Factors

[ http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=513345 ]

BorgWarner Inc.

[ http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=537205 ]

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