KEY RATING DRIVERS
The rating and Outlook for NVR reflect the strong credit protection measures, solid free cash flow generation and balance sheet liquidity that results from its unique operating model. The ratings also reflect NVR's capacity to withstand a meaningful housing downturn and manage effectively in an often challenging housing environment. The cyclical nature of homebuilding is reflected in the ratings as is NVR's relatively heavy exposure to the
The rating also considers NVR's capital structure, solid liquidity position, and Fitch's level of confidence with regard to its operating model under various economic conditions. Current debt-to-LTM EBITDA of 1.3x and LTM EBITDA to interest incurred of 18.1x and extensive liquidity (cash and equivalents) are supportive of the 'BBB+' rating level. Fitch expects these credit metrics will slightly improve further by the end of 2014.
GENERALLY IMPROVING HOUSING MARKET
Comparisons are challenging through first-half 2014, and so far this year most housing metrics seem to have been short of expectations and down somewhat from a year ago. Though the severe winter throughout much of
Housing metrics should improve for all of 2014 due to faster economic growth, and some acceleration in job growth, despite somewhat higher interest rates as well as more measured home price inflation. Single-family starts are projected to improve 15% to 710,000 as multifamily volume grows about 9% to 335,000. Thus, total starts this year should top 1 million. New home sales are forecast to advance about 16% to 500,000, while existing home volume is flat at 5.10 million, largely due to fewer distressed homes for sale.
As Fitch noted in the past, the housing recovery will likely occur in fits and starts.
SOME EROSION IN HOME AFFORDABILITY
The most recent Freddie Mac 30-year average mortgage rate was 4.12%, down 2 basis points (bps) sequentially from the previous week and about 71 bps higher than the average rate during the month of
Fitch projects that mortgage rates will average 60-80 bps higher in 2014 (relative to 2013) as the Fed continues to taper and the economy strengthens. New home price inflation should moderate in 2014, at least partially because of higher interest rates. Average and median new home prices should increase about 3.5% in 2014. However, Fitch's expectations of a more dynamic economic expansion this year with stronger job growth will more than offset this lessening in affordability. This will be particularly the case for the move-up and active adult markets.
NVR utilizes an operating model in which land is primarily controlled through rolling options with fixed deposits sourced from independent land developers. Land is not purchased until construction is set to begin. As a consequence, NVR occasionally may be able to participate in land appreciation, while minimizing capital outlays. This enables NVR to significantly reduce the risk of downside volatility.
On a limited basis, NVR has acquired several raw parcels of land to be developed into finished lots. In addition, the company has also obtained finished lots using joint ventures. This does not represent a change in NVR's disciplined approach in controlling finished lots through options, but is representative of several unique strategic opportunities.
Over 75% of NVR's inventory is represented by relatively liquid pre-sold work-in-process that is less vulnerable to significant declines in value in periods of economic stress. In a downturn, write-downs would primarily be limited to forfeiture of option deposits - a fraction of total finished lot value (typically 5%-10%). Alternatively, NVR seeks to renegotiate option contracts to realign the proposed land purchase price with prevailing market conditions, thereby averting severe gross margin compression.
NVR's gross margins are lagging some of its peers during this housing recovery as most of the large public builders started to rebuild their land positions during 2010 and are currently delivering homes that have a favorable land-cost basis, including some land that was impaired during the downturn. NVR's just-in-time operating model necessitates that the company pays current market value for the land in its delivery pipeline.
NVR's short-dated inventory position turns over rapidly (about 3.5-to-5 times), enhancing operating cash flow. NVR's inventory turnover ratios are consistently and considerably higher than those of its peers.
Because of its operating model, NVR is reliant on third party land developers to prepare finished lots and sell them under option to NVR. This strategy can restrict growth only to markets where such a strategy is viable. However, NVR has expanded its strategy to six new markets over the past six years. By establishing a significant presence in its markets, NVR positions itself as the preferred land purchaser and forges relationships with key local developers.
Fitch believes that, if options were to become unattainable in NVR's markets, bondholders would be well-protected due to the strong cash flow dynamics of NVR's model. Without land reinvestment requirements, NVR produces significant cash with which to retire its debt. For the latest 12-month (LTM) period ending
NVR has historically been an aggressive purchaser of its stock, buying back approximately
NVR resumed share repurchase activity later in 2010 buying
NVR ended 1Q'14 with
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.
Fitch currently does not expect the company's ratings and/or Outlook to change in the next 12-18 months. However, a Positive Outlook may be considered if the recovery in housing is significantly better than the current outlook and if credit metrics and liquidity are sustained meaningfully above Fitch's base case projection while continuing to maintain a solid liquidity position.
A negative rating action could be triggered if the industry recovery dissipates; 2014 and 2015 revenues each drop in excess of 20% while pretax profitability drops below 2011 levels; and NVR's liquidity position falls sharply, perhaps below
Fitch has affirmed NVR's ratings as follows:
--IDR at 'BBB+';
--Senior unsecured debt at 'BBB+'.
The Rating Outlook is Stable.
Additional information is available at 'www.fitchratings.com'.
--'Corporate Rating Methodology' (
--'Liquidity Considerations for Corporate Issuers' (
Corporate Rating Methodology - Including Short-Term Ratings and Parent and Subsidiary Linkage
Liquidity Considerations for Corporate Issuers
Source: Fitch Ratings
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