DBRS Downgrades AB Volvo to BBB (high), R-2 (high)

DBRS has today downgraded the Senior Unsecured Debt ratings of AB Volvo and Volvo Treasury Canada Inc. (Volvo or the Company, collectively) to BBB (high) from A (low). Volvo’s Commercial Paper ratings have also been downgraded to R-2 (high) from R-1 (low). The rating action reflects extended severe industry conditions across Volvo’s various businesses, particularly heavy trucks and construction equipment, which have adversely impacted the Company’s financial profile to a level no longer commensurate with the former ratings. Additionally, the expected recovery in Volvo’s primary markets will likely take longer than previously anticipated by DBRS; this would preclude the Company from generating sufficient profitability in the near term to restore its financial profile to recent historical levels. The trend of the ratings has been changed to Stable from Negative as DBRS notes that the global economic downturn would appear to have bottomed out and that countermeasures implemented by Volvo (including significant cost reductions) should prevent a further deterioration in its financial profile.

The Company recently announced its fourth quarter and full year 2009 results. Revenues of the industrial operations were close to 30% lower year-over-year with Volvo’s two core segments, Trucks and Construction Equipment, showing sharp decreases. The decline in volumes more than offset implemented countermeasures, with the Company incurring an operating loss of SEK 16.3 billion (as calculated by DBRS) for 2009. Accordingly, notwithstanding moderated capital expenditures, much lower dividends and significant cash (i.e., SEK 4.7 billion) generated from working capital (primarily through inventory reductions), Volvo’s free cash flow for 2009 was substantially negative, in excess of SEK 16 billion. DBRS notes that this represents the second consecutive year of progressively weaker financial performance of the Company. As a result, Volvo’s financial profile has significantly deteriorated, with profitability- and cash flow-based credit metrics in negative territory. The protracted decline in performance has also adversely impacted the Company’s balance sheet. As of December 31, 2009, total debt-to-capitalization of the industrial operations amounted to approximately 54%, relative to 36% the prior year. DBRS recognizes that Volvo’s higher gross leverage is partly a function of increasing liquidity objectives in response to the recent financial crisis. However, notwithstanding a significant reduction in net debt in Q4 2009 (due primarily to cash generated working capital), the Company’s industrial net debt-to-equity as of year-end 2009 still amounted to 70.9%, which remains well in excess of Volvo’s targeted level of 40%.

Additionally, DBRS notes that while the downturn may have bottomed out, the Company’s key markets in both Trucks and Construction Equipment remain very weak relative to recent historically high levels, with the ensuing recovery likely being modest and considerably more protracted than originally anticipated. In Trucks (Volvo’s largest segment, accounting for roughly two-thirds of industrial revenues), as of year-end 2009, industry sales in Europe (which typically represents close to 60% of the Company’s total unit truck sales), were only at approximately half of historical highs. While the European market in 2010 is projected to grow by approximately 10% year-over-year, this clearly remains weak relative to prior levels. Similarly, while the North American truck market may also grow this year by more than 20% relative to 2009, currently that market is at less than 40% of prior peak volumes. In Construction Equipment, Volvo’s revenues last year declined by approximately 38% relative to 2008, with the Company expecting related global activity in 2010 to increase only in the range of 10%. These sharp declines and subsequent muted recoveries in the Company’s key business segments will likely preclude Volvo from significantly restoring its financial profile, particularly its balance sheet, in the near term.

However, DBRS nonetheless notes that Volvo has retained its competitive position, as market share across its business segments and geographies has essentially been constant, with the Company also holding pricing at firm levels. Additionally, Volvo has been progressively augmenting its exposure to emerging markets and increasing its relative proportion of service and aftermarket revenues, both of which should reduce its sales volatility going forward. Given the Company’s strong position in both Trucks and Construction Equipment (respectively, second and third globally), DBRS notes that Volvo remains well positioned to eventually benefit from the expected recovery of these industries in the long term.

DBRS expects Volvo’s ratings to remain constant in the medium term. While the Company’s financial position is not expected to materially improve, ongoing cost reductions, expected lower capital expenditures and suspended dividends amid a modest recovery in Volvo’s businesses should prevent a further deterioration. However, should Europe’s economy be subject to significant further volatility given the fiscal challenges of certain member nations, this could trigger an event-driven review of the ratings.

Note:
All figures are in SEK unless otherwise noted.

Ratings for Volvo Treasury Canada Inc. are based on the parent and guarantor, AB Volvo (publ).

The applicable methodology is Rating Automotive, which can be found on our website under Methodologies.

This is a Corporate rating.