Fitch Affirms Mohawk's IDR at 'BBB'; Outlook Stable

CHICAGO--(BUSINESS WIRE)--

Fitch Ratings has affirmed the ratings of Mohawk Industries, Inc. MHK, including the company's Issuer Default Rating (IDR), at 'BBB'. The Rating Outlook is Stable. A complete list of rating actions follows at the end of this release.

KEY RATING DRIVERS

The ratings for Mohawk reflect the company's leading market position in most of its major business segments, strong brand recognition, end-market diversity and solid credit metrics. Risks include the cyclicality of the company's end-markets and Mohawk's aggressive growth strategy, which has at times resulted in temporarily elevated leverage levels.

The Stable Outlook reflects Fitch's expectation that demand for Mohawk's products will continue to grow in the near to intermediate term as the U.S. construction market maintains its moderate recovery. The Stable Outlook also incorporates Mohawk's adequate liquidity position, although Fitch notes that the company has meaningful short-term debt outstanding.

LEADERSHIP POSITION

Management estimates that the company is the world's largest flooring manufacturer. Mohawk is the largest manufacturer of ceramic tiles and the second largest carpet and rug manufacturer, as well as a leading producer of laminate flooring in Europe and the U.S. Fitch believes that this leadership position provides the company with competitive advantages such as a broad array of product offerings, access to a wider range of distribution channels, and a strong platform to execute its growth initiatives and geographic expansion.

AGGRESSIVE GROWTH STRATEGY

Mohawk has historically grown its business internally and through acquisitions. Between 2013 and 2015, the company spent roughly $1.4 billion on capital expenditures and about $3.4 billion on acquisitions. These investments significantly improved the company's market position, expanded its customer base into new distribution channels, facilitated its geographic expansion and diversification, and provided the company with enhanced product offerings and upgraded technology.

Mohawk completed several significant acquisitions last year. In May 2015, Mohawk completed the acquisition of a 90% ownership interest in Kai Group, an eastern European ceramic tile floor manufacturer, for approximately $194.6 million. Kai Group has a low cost position in the Bulgarian and Romanian ceramic tile floor markets. In June 2015, Mohawk completed the acquisition of IVC Group (IVC), a global manufacturer, distributor and marketer of vinyl flooring products including luxury vinyl tile (LVT). IVC had approximately $735 million of sales during 2014. The total acquisition value was $1.156 billion, including $742.1 million of cash, debt repayment of $261.1 million and $153.1 million of Mohawk stock. In December 2015, the company acquired Xtratherm Limited, a manufacturer of insulation boards in Ireland, the UK and Belgium, for $158.9 million. These acquisitions were funded primarily with debt, resulting in debt levels increasing from $2.25 billion at year-end 2014 to $3.2 billion at the end of 2015.

Mohawk has demonstrated that it has the discipline to reduce leverage levels following a major acquisition(s). Following the acquisitions of the IVC Group and KAI Group during the second quarter of 2015 (2Q'15), Mohawk's leverage increased to 3.0x for the latest 12 months (LTM) ending July 4, 2015 from 1.9x at year-end 2014. Leverage has since declined from a combination of debt reduction and integration of the acquisitions, resulting in debt/EBITDA of 2.1x for the LTM period ending April 2, 2016. Similarly, Mohawk's leverage increased from 2.0x at year-end 2012 to around 3.3x for the LTM period ending June 30, 2013 after acquiring three companies during the first half of 2013. Leverage gradually declined to 2.3x at year-end 2013 and 1.9x at the conclusion of 2014 as the company fully integrated the acquisitions and reduced debt levels.

While the company had demonstrated discipline in the past, the risk is that Mohawk becomes a serial acquirer and will continually pursue acquisition opportunities that will frequently push its leverage to the higher end (or perhaps above) its 2.0x-3.0x leverage target. Fitch expects the company will remain disciplined in its growth strategy and will consistently manage its balance sheet towards the lower end of its leverage target.

FCF GENERATION

Mohawk reported free cash flow (FCF) of $560.2 million (6.7% FCF margin) for the LTM period ending April 2, 2016 compared with $408.2 million (5.1%) during 2015, $100.4 million (1.3%) during 2014, $158.7 million (2.2%) during 2013 and $379.3 million (6.6%) during 2012. Fitch expects the company will generate FCF margins of 4.5%-5.5% during 2016, which includes $600 million to $650 million of capital expenditures (capex). By comparison, the company had capex of $503.7 million during 2015 and $561.8 million during 2014.

The higher capex projected for 2016 includes additional LVT production lines in the U.S. and Europe, doubling its Mexican ceramic plant in Central Mexico, completing the final phase of its European ceramic upgrades and expansion of its European premium laminate production with new technology. Management believes these capacity increases can support additional sales of $1.2 billion-$1.4 billion.

SOLID CREDIT METRICS

Mohawk's credit metrics are solid relative to its ratings. Leverage as measured by debt/EBITDA was 2.1x for the LTM period ending April 2, 2016 compared with 2.2x at the end of 2015, 1.9x at the end of 2014 and 2.3x at the conclusion of 2013. EBITDA/interest remains strong at 22.7x for the April 2, 2016 LTM period compared with 21.1x during 2015, 12.0x during 2014, and 10.9x during 2013. Fitch expects leverage will settle below 2.0x at the conclusion of 2016 and expects EBITDA to interest coverage will remain above 20.0x in the intermediate term.

ADEQUATE LIQUIDITY

Mohawk has adequate liquidity and is able to meet its financial obligations, although the company has significant short-term borrowings. As of April 2, 2016, the company had cash of $98.3 million, of which $72.2 million was held outside the U.S. The company also has $1.8 billion commercial paper (CP) programs in the U.S. and in Europe that is backed by its $1.8 billion five-year revolving credit facility that matures in March 2021. As of April 2, 2016, Mohawk had $227.3 million of borrowing availability under its revolving credit.

In addition, the company also has an undrawn $200 million delayed-draw term loan facility. The term loan facility allows Mohawk to draw up to $200 million (in no more than two borrowings) between March 1, 2016 and Sept. 1, 2016. All amounts borrowed under the term loan facility will be due on March 1, 2019.

MEANINGFUL SHORT-TERM DEBT OUTSTANDING

As of April 2, 2016, the company had $1.54 billion outstanding under its U.S. and European CP programs and $26.4 million of borrowings under its revolving credit facility. (The company's $1.8 billion revolver is used as a liquidity backstop for its CP programs.) In January 2016, Mohawk had $645.6 million of 6.125% senior notes that became due. The company chose to repay this debt maturity with borrowings under the CP program.

Mohawk's CP borrowings have very attractive interest rates. As of April 2, 2016, borrowings under the CP programs had a weighted-average interest rate and maturity period of 0.75% and 23.3 days, respectively, under the U.S. CP program and 0.03% and 28.97 days, respectively, for the European CP program. The company has demonstrated its ability to access the capital markets, including issuing in June 2015 EUR500 million of 2% senior notes due 2022 and issuing in January 2013 $600 million of 3.85% senior notes due 2023.

EXPECTED CONTINUED IMPROVEMENT IN MOHAWK'S U.S. END-MARKETS

The company markets its products primarily to the U.S. construction industry, with a majority of sales directed to the residential repair and remodel segment and the remainder directed to new residential construction and commercial markets. Sales from North America accounted for about 72% of overall sales during 2015.

Fitch expects overall industry construction spending will expand modestly in 2016, driven primarily by continued robust spending in the private sector. Total housing starts are projected to grow 8.8% while new home sales are forecast to expand 14.6% in 2016. Existing home sales are projected to rise 3% this year. Home improvement spending is also forecast to increase 4.5% while private non-residential construction is expected to improve 7% in 2016.

EUROPEAN EXPOSURE

Management estimates that about 19% of its sales are generated from Western Europe and about 3% from Russia. Fitch expects Eurozone GDP will grow 1.6% annually between 2016 and 2018, with the UK, Germany, and Spain economies growing above this level while France's GDP is forecast to grow slightly below this rate. Fitch expects continued weakness in Russia, with country's GDP forecast to contract 0.7% in 2016 before growing 1.3% in 2017 and 2% in 2018.

KEY ASSUMPTIONS

Fitch's key assumptions within its rating case for the issuer include:

--Total U.S. housing starts improve 8.8%, while new and existing home sales grow 14.6% and 3%, respectively, in 2016; Fitch expects the housing upcycle to continue in 2017, with total housing starts forecast to improve 8.3% and new and existing home sales increase 11.5% and 4%, respectively;

--U.S. home improvement spending advances 4.5% during 2016 and 4% in 2017;

--U.S. private non-residential construction spending increases 7% in 2016 and 6% in 2017;

--Mohawk's revenues grow 8%-10% and EBITDA margins expand 25 basis points (bps)-75 bps this year;

--Debt/EBITDA settles below 2x and interest coverage is above 20x by the end of 2016;

--The company reports a FCF margin of 4.5%-5.5% during 2016.

RATING SENSITIVITIES

Future ratings and Outlooks will be influenced by broad residential and commercial construction market trends and how the company manages its capital structure through the cycle, including FCF trends and uses.

Fitch does not anticipate positive rating actions in the intermediate term. However, one may be considered if management commits to lowering its leverage target to below 2.0x through the construction cycle from the current target of 2.0x-3.0x and the company's debt to EBITDA is consistently between 1.0x-2.0x, funds from operations (FFO) adjusted leverage is consistently below 3.0x and Mohawk maintains a solid liquidity position.

Negative rating actions may be considered if there is a sustained erosion of profits and cash flows either due to weak residential construction activity, meaningful and continued loss of market share, and/or continuous materials and energy cost pressures resulting in margin contraction, leading to debt to EBITDA consistently above 2.5x and FFO adjusted leverage sustaining above 3.5x for an extended period. Fitch expects Mohawk will manage its leverage at or below the low-end of its 2.0x-3.0x leverage (debt to EBITDA) target as we approach the top of the construction cycle so as to allow the company to sustain its leverage comfortably within its target when the cycle declines and EBITDA levels contract.

Negative rating actions may also be considered if there is a change in the company's financial strategy, including leveraged acquisitions and/or debt financed share repurchases that result in debt to EBITDA sustaining above 2.5x and FFO adjusted leverage consistently and meaningfully above 3.5x.

FULL LIST OF RATINGS

Fitch has affirmed the following ratings:

Mohawk Industries, Inc.

--Long-Term Issuer Default Rating (IDR) at 'BBB';

--Senior unsecured notes at 'BBB';

--Unsecured revolving credit facility at 'BBB'.

The Rating Outlook is Stable.

Additional information is available on www.fitchratings.com.

Applicable Criteria

Corporate Rating Methodology - Including Short-Term Ratings and Parent and Subsidiary Linkage (pub. 17 Aug 2015)

https://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=869362

Additional Disclosures

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https://www.fitchratings.com/gws/en/disclosure/solicitation?pr_id=1005815

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