Fitch Ratings has affirmed the Issuer Default Rating (IDR) for United
Technologies Corporation's (UTC; NYSE: UTX) at 'A'. The Rating Outlook
is revised to Negative from Stable. A detailed rating list follows at
the end of this press release.
Key Rating Drivers:
The ratings consider UTC's consistently strong operating performance,
competitive market positions, geographic and product diversification,
solid free cash flow (FCF), and ability to generate favorable margins
through economic cycles. The company made significant changes to its
business portfolio during the past year including the acquisition of
Goodrich and the purchase of a larger ownership interest in IAE
International Aero Engines (IAE) which is now consolidated with UTC's
results. These transactions strengthen UTC's presence in its aerospace
markets and can be expected to support the company's long-term financial
results. It also made a number of divestitures, primarily commercial
businesses, which helped fund the acquisitions. As a result, the
proportion of commercial and military aerospace business has increased
to slightly more than half of UTC's revenue compared to slightly more
than 40% previously.
The Negative Rating Outlook reflects UTC's leverage, which remains weak
for the ratings while the company reduces debt used to fund last year's
acquisitions. The Outlook is centered on the pace of debt reduction and
the level at which credit metrics ultimately stabilize. Fitch believes
UTC has adequate financial capacity to rebuild credit metrics to strong
levels in the near term that would support a rating of at least 'A'.
However, the expected improvement in leverage could be less than
initially anticipated by Fitch due to conditions in certain of UTC's
global markets which continue to face challenges and where recovery has
slowed or been delayed. The level at which metrics eventually stabilize
will depend on demand in UTC's end-markets as well as the company's
allocation of FCF toward debt reduction, internal reinvestment, and
discretionary spending for share repurchases and acquisitions.
Debt/EBITDA on a last-12-month basis at March 31, 2013 was 2.6x, well
above historical levels of around 1.3x or less, but was somewhat
overstated as it does not include the full impact of earnings from
Goodrich and IAE. Fitch expects debt/EBITDA to decline to around 2.1x by
the end of 2013, slightly above the original estimate of 2.0x, and
toward 1.8x by the end of 2014. Actual leverage could be lower if
revenue is above the $64 million-$65 million range assumed by Fitch,
margins improve more than expected, or debt repayment is greater or
occurs sooner than anticipated.
The Rating Outlook could return to Stable if UTC rebuilds credit metrics
to stronger levels within the next two years or so. Credit metrics
consistent with UTC's current 'A' rating include debt/EBITDA near
1.5x-1.6x or below, and FCF-to-total adjusted debt close to around 20%
or higher. Historically, UTC maintained the ratio closer to 25%, but the
ratio could be somewhat less in the near term due to investment in
development programs and working capital requirements in the aerospace
business.
UTC is well-positioned to benefit from long-term growth in commercial
aerospace as global passenger traffic increases and airlines increase
capacity and upgrade aircraft. The Goodrich acquisition strengthened
UTC's already solid position as a supplier of aerospace and defense
equipment and services. Also, Pratt & Whitney's (P&W) development of the
geared turbofan engine has been successful to date; it has a solid
backlog on several new aircraft programs, which helps to address a
long-term decline in P&W's market share for large commercial engines.
These developments should more than offset pressure in defense aerospace
associated with pressure on the U.S. defense budget and a weak European
economy. Concerns about military spending are also mitigated by UTC's
attractive positions as a key supplier on several military programs for
which production is expected to remain stable or ramp up over several
years, including the H-60 helicopter, Joint Strike Fighter (JSF), and
CH-53K heavy-lift helicopter.
Emerging markets, particularly China, are an important source of
long-term growth for UTC. GDP growth in China has declined to a more
moderate level, projected by Fitch at 7.5% in 2013 and 2014. China also
remains sensitive to government policies and credit availability. In
addition, Europe remains weak and commercial construction in the U.S. is
still slow despite some recent improvement. These situations are likely
to persist and could constrain UTC's overall revenue and margin growth
in the near term despite a recent increase in orders in China at the
Otis segment and gains in the residential construction market in the U.S.
UTC expects to incur restructuring charges of at least $350 million in
2013, compared to $614 million in 2012, which could support margin
improvement in 2013 estimated by Fitch at approximately 80 basis points.
Restructuring is spread across all segments but was concentrated in 2012
at Otis; Climate, Controls & Security (CCS); and UTC Aerospace Systems
(UTAS). CCS is realigning and integrating the fire and security
business, and UTAS continues to integrate Goodrich. UTC estimates cost
synergies related to integrating Goodrich could reach approximately $500
million annually by 2016.
Fitch views UTC's estimate of $6 billion of FCF before dividends in 2013
as achievable based on synergies from the Goodrich acquisition, the
inclusion of IAE, ongoing restructuring in the CCS segment, and a
nascent modest recovery in some of Otis' end-markets. This level of FCF
would support the company's plan to reduce debt by at least $2 billion
in 2013 in addition to funding dividends and discretionary spending.
Fitch expects FCF to increase modestly in 2014 and be maintained at
solid levels over the long term. FCF includes the impact of lower
pension contributions which UTC estimates will decline to $200 million
in 2013 from $430 million in 2012. Additional contributions are possible
but not required. At March 31, 2013, U.S. plans were 88% funded. The
company suspended share repurchases in 2012 but repurchased $335 million
in the first quarter of 2013 and maintains a placeholder of $1 billion
for repurchases for the full year. It also budgets $1 billion for
acquisitions.
In addition to leverage, rating concerns include risks related to
developing new aerospace programs, including Sikorsky's CH-148
helicopter program with the Canadian government which has experienced
significant cost overruns and charges, although the program is still
expected to be profitable over its life when including aftermarket
revenue. Other concerns include competitive pressure, lower defense
spending in the U.S., and contingent obligations which include financing
commitments and ongoing litigation surrounding P&W's F100 engine.
Financing commitments have increased and are likely to increase further,
consistent with higher production in UTC's commercial aerospace markets.
However, commitments extend over several years, and concerns about
potential funding needs are mitigated by the availability of alternative
financing to customers and by minimum requirements for interest rates
and collateral.
At March 31, 2013 UTC's liquidity included cash and equivalents of
approximately $4.8 billion and $4 billion of committed bank facilities
that mature in 2016. Liquidity was offset by $1.1 billion of debt due
within one year. UTC's outstanding debt totaled $22.8 billion, including
$1.1 billion of junior subordinated notes that are part of equity units
issued to help fund the Goodrich acquisition. The notes do not receive
equity credit from Fitch, since at least some of the notes could remain
outstanding until maturity in 2022.
Fitch rates Goodrich's debt at the same level as UTC due to UTC's
implied support for Goodrich. UTC has not assumed or guaranteed
Goodrich's debt, but Goodrich is important to UTC's aerospace strategy
and has been combined with UTC's Hamilton Sundstrand business. UTC has
redeemed approximately $800 million principal amount of Goodrich debt
since the acquisition, and approximately $1.5 billion of Goodrich debt
remains outstanding.
Rating Sensitivities:
A positive rating action is unlikely in the near term while UTC rebuilds
credit metrics following the Goodrich acquisition. The Rating Outlook
could return to Stable if UTC rebuilds credit metrics to stronger levels
within the next two years or so. Credit metrics consistent with UTC's
current 'A' rating include debt/EBITDA near 1.5x-1.6x or below, and
FCF-to-total adjusted debt close to a range around 20% or higher.
Fitch could consider a downgrade if credit metrics do not strengthen
sufficiently which could occur if cash deployment is directed away from
debt reduction, or if financial results are weaker than anticipated.
Developments that could impair UTC's financial results include further
slowing of economic growth in China and other emerging regions,
additional weakening in developed economies, unexpected challenges in
fully realizing synergies from integrating Goodrich or restructuring in
the CCS segment, negative events in UTC's aerospace markets, and
significant delays or cancellations for military programs at P&W and
Sikorsky.
Fitch has affirmed the following ratings:
United Technologies Corporation
--IDR at A';
--Senior unsecured bank credit facilities at 'A';
--Senior unsecured notes at 'A';
--Junior unsecured subordinated debt at 'BBB+';
--Short-term IDR at 'F1';
--Commercial paper at 'F1'.
Goodrich Corporation:
--IDR at 'A';
--Senior unsecured notes at 'A'.
The Rating Outlook is Negative.
Additional information is available at 'www.fitchratings.com'.
Applicable Criteria and Related Research:
--'Corporate Rating Methodology' (Aug. 8, 2012);
--'Treatment and Notching of Hybrids in Nonfinancial Corporate and REIT
Credit Analysis' (Dec. 13, 2012).
Applicable Criteria and Related Research:
Treatment and Notching of Hybrids in Nonfinancial Corporate and REIT
Credit Analysis
http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=696670
Corporate Rating Methodology
http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=684460
Additional Disclosure
Solicitation Status
http://www.fitchratings.com/gws/en/disclosure/solicitation?pr_id=796114
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