News Column

Fitch Rates Lennar's Proposed Senior Notes Offering 'BB+'

February 4, 2014

NEW YORK --(BUSINESS WIRE)-- Fitch Ratings has assigned a 'BB+' rating to Lennar Corporation's (NYSE: LEN and LEN.B) proposed offering of $250 million of senior notes due 2026. This issue will be ranked on a pari passu basis with all other senior unsecured debt. Net proceeds from the notes offering will be used for working capital and general corporate purposes. The Rating Outlook is Stable. A full list of ratings is provided at the end of this release. KEY RATING DRIVERS The ratings and Outlook for Lennar reflect the company's strong liquidity position and continuing recovery of the housing sector this year. The ratings also reflect Lennar's successful execution of its business model over many cycles, geographic and product line diversity, and much lessened joint venture exposure. There are still some challenges facing the housing market that are likely to moderate the early-to-intermediate stages of this recovery. Nevertheless, Lennar has the financial flexibility to navigate through the sometimes challenging market conditions and continue to broaden its franchise and invest in land opportunities. THE INDUSTRY Housing metrics all showed improvement in 2013. Preliminary data show that single-family housing starts increased 15.5% to 618,000. Existing home sales gained 9.2% to 5.09 million in 2013, while new home sales grew 16.6% to 428,000. Average single-family new home prices (as measured by the Census Bureau ), which dropped 1.8% in 2011, increased 8.7% in 2012 and rose 9.8% to $320,900 in 2013. Median home prices expanded 2.4% in 2011 and then grew 7.9% in 2012 and expanded 8.4% to $265,800 last year. Housing metrics should increase in 2014 due to faster economic growth (prompted by improved household net worth, industrial production and consumer spending), and consequently some acceleration in job growth (as unemployment rates decrease to 6.9% for 2014 from an average of 7.5% in 2013), despite somewhat higher interest rates, as well as more measured home price inflation. A combination of tax increases and spending cuts in 2013 shaved about 1.5pp off annual economic growth, according to the Congressional Budget Office . Many forecasters expect the fiscal drag in 2014 to be one-third that amount or less. Unfortunately, there is still a possibility that another stand-off in Congress will occur in late February over raising the federal borrowing limit. In any case, single-family starts in 2014 are projected to improve 20% as multifamily volume grows about 9%. Consequently, total starts in 2014 should top 1 million. New home sales are forecast to advance about 20%, while existing home volume increases 2%. New home price inflation should moderate in 2014, at least partially because of higher interest rates. Average and median new home prices should rise about 3.5% in 2014. Challenges (although somewhat muted) remain, including still relatively high levels of delinquencies, the potential for higher interest rates, and restrictive credit qualification standards. IMPROVING FINANCIAL RESULTS AND CREDIT METRICS Lennar's total corporate revenues in fiscal 2013 increased 44.6% to $5.94 billion . Homebuilding revenues grew 49.5% to $5.35 billion as home deliveries expanded 33% and the average selling price improved 13.9% to $290,000 . More importantly, the company reported homebuilding operating income of $773.08 million (up 183.1%) and a homebuilding operating margin of 13.69%, up from 7.23% in 2012. Corporate pretax income tripled to $681.94 million . Lennar's solid backlog at fiscal year-end (up 18.6% in units and 39.6% in dollar value) and positive industry outlook augurs well for the company's outlook in 2014. Fitch calculated leverage at the end of the fourth quarter of 2013 was 5.1x compared with 9.1x at the end of 2012. EBITDA to interest coverage was 3.1x for the LTM period ending November 30, 2013 compared with 2.0x in 2012. Fitch expects further improvement in credit metrics, with leverage approaching 4.0x and interest coverage nearing 4.0x by the end of 2014. LIQUIDITY Lennar has solid liquidity with unrestricted homebuilding cash of $695.4 million as of Nov. 30, 2013 . On June 12, 2013 LEN announced that it increased the amount of financing available under its unsecured revolving credit facility to $950 million from $525 million and extended the credit facility's maturity to June 2017 . The $950 million includes an approximately $18 million accordion feature. The credit agreement also provides that up to $500 million in commitments may be used for letters of credit. The credit agreement contains financial covenants, including a minimum consolidated tangible net worth, a maximum leverage ratio and liquidity requirements. There was no debt outstanding for the facility as of Nov. 30, 2013 . Additionally, Lennar terminated its $150 million letter of credit and reimbursement agreement and its $50 million letter of credit and reimbursement agreement during fiscal 2013. The company's debt maturities are well-laddered, with about 25% of its senior notes (as of Nov. 30, 2013 ) maturing through 2015. HOMEBUILDING The company was the third largest homebuilder in 2012 and primarily focuses on entry-level and first-time move-up homebuyers. The company builds in 17 states with particular focus on markets in Florida , Texas and California . Lennar's significant ranking (within the top five or top 10) in many of its markets, its largely presale operating strategy, and a return on capital focus provide the framework to soften the impact on margins from declining market conditions. Fitch notes that in the past, acquisitions (in particular, strategic acquisitions) have played a significant role in Lennar's operating strategy. Compared to its peers Lennar has had above-average exposure to joint ventures (JVs) during this past housing cycle. Longer-dated land positions are controlled off balance sheet. The company's equity interests in its partnerships generally ranged from 10% to 50%. These JVs have a substantial business purpose and are governed by Lennar's conservative operating principles. They allow Lennar to strategically acquire land while mitigating land risks and reduce the supply of land owned by the company. They help Lennar to match financing to asset life. JVs facilitate just-in-time inventory management. Nonetheless, Lennar has substantially reduced its number of JVs over the last seven years (from 270 at the peak in 2006 to 36 as of Nov. 30, 2013 ). As a consequence, the company has very sharply lowered its JV recourse debt exposure from $1.76 billion to $41 million ( $27.5 million net of joint and several reimbursement agreements with its partners) as of Nov. 30, 2013 . In the future, management will still be involved with partnerships and JVs, but there will be fewer of them and they will be larger, on average, than in the past. The company did a good job in reducing its inventory exposure (especially early in the correction) and generating positive operating cash flow. In 2010, the company started to rebuild its lot position and increased land and development spending. Lennar spent about $600 million on new land purchases during 2011 and expended about $225 million on land development during the year. This compares to roughly $475 million of combined land and development spending during 2009 and about $704 million in 2010. During 2012, Lennar purchased approximately $1 billion of new land and spent roughly $302 million on development expenditures. Land spend totaled almost $1.9 billion last year and development expenditures reached about $600 million , double the level of 2012. Total real estate spending in 2014 could be flat to up moderately as Lennar focuses more on development activities than on land spend. The company was considerably more cash flow negative in 2013 ( $807.71 million ) than in 2012 ( $424.65 million ). Lennar is likely to be much less cash flow negative in 2014. Fitch is comfortable with this real estate strategy given the company's cash position, debt maturity schedule, proven access to the capital markets and willingness to quickly put the brake on spending as conditions warrant. FINANCIAL SERVICES Lennar's financial services segment provides mortgage financing, title insurance and closing services for both buyers of Lennar's homes and others. Substantially all of the loans that the segment originates are sold within a short period in the secondary mortgage market on a servicing released, non-recourse basis. After the loans are sold, Lennar retains potential liability for possible claims by purchasers that the company breached certain limited industry standard representations and warranties in the loan sale agreements. In fiscal 2013, financial services revenues totaled $427.34 million (7.2% of corporate revenues). The segment reported $85.79 million in operating income (10.4%) of the corporate total). RIALTO The Rialto segment focuses on real estate investments and asset management. Rialto utilizes its vertically integrated investment and operating platform to underwrite, diligence, acquire, manage, workout and add value to diverse portfolios of real estate loans, properties and securities, as well as providing strategic real estate capital. Rialto's primary focus is to manage third party capital and funds or entities in which funds it manages have invested, and primarily on their behalf. Rialto has begun the workout and/or oversight of billions of dollars of real estate assets across the U.S., including commercial and residential real estate loans and properties, as well as mortgage backed securities. So far, many of the investment and management opportunities have arisen from the dislocation in the U.S. real estate markets and the restructuring and recapitalization of those markets. During fiscal 2013, Rialto formed RMF to originate and sell into securitizations five-, seven- and 10-year commercial first mortgage loans, generally with principal amounts between $2 million and $75 million , which are secured by income producing properties. Lennar expects this business to be a significant contributor to Rialto's revenues, at least in the near future. Rialto is the sponsor of and an investor in private equity vehicles that invest in and manage real estate related assets. This includes Fund I, in which investors have committed and contributed a total of $700 million of equity (including $75 million by Lennar ), Fund II with investor commitments of $1.3 billion (including $100 million by Lennar ) and the Mezzanine Fund with a target of raising $300 million in capital, including $25 million committed by Lennar , to invest in performing mezzanine commercial loans. Rialto also earns fees for its role as a manager of these vehicles and for providing asset management and other services to those vehicles and other third parties. The Rialto segment contributed $138.06 million to revenues in fiscal 2013, while generating $26.13 million in operating income. RENTAL ACTIVITIES AND LARGE MPCs In addition to the homebuilding, financial services and Rialto operating platforms, Lennar has been incubating a multi-family rental business strategy (beginning in early 2011) as well as FivePoint Communities which manages large, complex masterplanned communities (MPCs) in the Western U.S. (including the former Newhall Land and Farming Company). FivePoint is currently undertaking six MPCs, three in Southern California and three in or near San Francisco . These developments are planned for a total of 50,000 homesites and 20 million square feet of commercial space. During 2012 and 2013, Lennar became actively involved, primarily through unconsolidated entities, in the development of multifamily rental properties. The multifamily segment focuses on developing a geographically diversified portfolio of institutional quality multifamily rental properties in select U.S. markets. Lennar currently uses third party management companies to rent the apartments though the company anticipates renting the apartments through one of its entities in the future. As of Nov. 30, 2013 , its balance sheet had $147.1 million of assets related to the multifamily segment, which includes investments in unconsolidated entities of $46.3 million . The company's net investment in the segment as of Nov. 30, 2013 was $105.6 million . The multifamily segment was participating in 13 unconsolidated entities as of Nov. 13, 2013 . The segment had a pipeline of future projects totaling $3.7 billion in assets across a number of states that will be developed by unconsolidated entities. The company's long-term goal is to build a portfolio of income producing apartment properties across the country. The multifamily segment generated $14.75 million in revenues in fiscal 2013 and reported an operating loss of $16.99 million . RATING SENSITIVITIES 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. Positive rating actions may be considered if the recovery in housing is maintained and is more robust than Fitch's current outlook, Lennar shows continuous improvement in credit metrics (with leverage less than 3.0x and interest coverage in excess of 6.0x), and maintains a healthy liquidity position. Negative rating actions could occur if the recovery in housing dissipates, the company's revenues and margins drop sharply and Lennar maintains an overly aggressive land and development spending program. This could lead to consistent and significant negative quarterly cash flow from operations as well as a meaningfully diminished liquidity position (below $500 million ). Fitch has affirmed Lennar's ratings as follows: --Issuer Default Rating at 'BB+'; --Senior unsecured debt at 'BB+'. The Rating Outlook is Stable. Additional information is available at ' '. Applicable Criteria and Related Research : --'Corporate Rating Methodology' ( Aug. 8, 2012 ); --'Liquidity Considerations for Corporate Issuers' ( June 12, 2007 . Applicable Criteria and Related Research : Corporate Rating Methodology: Including Short-Term Ratings and Parent and Subsidiary Linkage Liquidity Considerations for Corporate Issuers Additional Disclosure Solicitation Status ALL FITCH CREDIT RATINGS ARE SUBJECT TO CERTAIN LIMITATIONS AND DISCLAIMERS. PLEASE READ THESE LIMITATIONS AND DISCLAIMERS BY FOLLOWING THIS LINK: HTTP://FITCHRATINGS.COM/UNDERSTANDINGCREDITRATINGS . IN ADDITION, RATING DEFINITIONS AND THE TERMS OF USE OF SUCH RATINGS ARE AVAILABLE ON THE AGENCY'S PUBLIC WEBSITE ' WWW.FITCHRATINGS.COM '. PUBLISHED RATINGS, CRITERIA AND METHODOLOGIES ARE AVAILABLE FROM THIS SITE AT ALL TIMES. FITCH'S CODE OF CONDUCT, CONFIDENTIALITY, CONFLICTS OF INTEREST, AFFILIATE FIREWALL, COMPLIANCE AND OTHER RELEVANT POLICIES AND PROCEDURES ARE ALSO AVAILABLE FROM THE 'CODE OF CONDUCT' SECTION OF THIS SITE. FITCH MAY HAVE PROVIDED ANOTHER PERMISSIBLE SERVICE TO THE RATED ENTITY OR ITS RELATED THIRD PARTIES. DETAILS OF THIS SERVICE FOR RATINGS FOR WHICH THE LEAD ANALYST IS BASED IN AN EU-REGISTERED ENTITY CAN BE FOUND ON THE ENTITY SUMMARY PAGE FOR THIS ISSUER ON THE FITCH WEBSITE. Fitch Ratings Primary Analyst Robert Curran , +1-212-908-0515 Managing Director Fitch Ratings, Inc. One State Street Plaza New York, NY 10004 or Secondary Analyst Robert Rulla , CPA, +1-312-606-2311 Director or Committee Chairperson Monica Aggarwal , +1-212-908-0282 Senior Director or Media Relations Sandro Scenga , New York , +1-212-908-0278 Source: Fitch Ratings

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