DBRS Confirms Ryder System, Inc. and Ryder Truck Rental Canada Ltd. at BBB (high) and R-1 (low), Stable Trends

DBRS has today confirmed the Issuer Rating and Senior Unsecured Debt rating at BBB (high) and the Commercial Paper rating at R-1 (low), respectively, of Ryder System, Inc. and Ryder Truck Rental Canada Ltd. (collectively, Ryder or the Company). All trends are Stable.

Ryder (along with Penske Corporation) is one of the two leading nationwide truck leasing companies, providing full-service leases and a wide range of transportation and supply chain solutions in North America. The Company’s Fleet Management Solutions (FMS) division provides full-service leases (FSL), rental, maintenance and fuel supply services, and its Supply Chain Solutions (SCS) division offers solutions in distribution, transportation and supply chain management, contributing about 66% and 34% of total revenue in 2011, respectively. Since 2012, Ryder has merged its smaller Dedicated Contract Carriage (DCC) business into the SCS division.

Although Ryder’s leasing and SCS businesses are driven by demand for freight transportation and other factors affecting the cyclical and competitive trucking industry, DBRS considers that these businesses are relatively more stable, as they are supported by having long-term leasing and maintenance contracts covering about one-third of total revenue. Also providing stability is the Company’s leading market position, which is supported by its extensive network coverage throughout North America and its ability to offer more value-adding logistic solutions and relatively lower cost of capital.

DBRS believes that Ryder’s business risk profile is materially stronger than that of the trucking industry and supports its ratings for a number of reasons. First, the truck leasing industry in North America is dominated by two continent-wide market leaders, with a handful of other players focusing on smaller trucks; hence, competition has been rational and pricing has been disciplined. Second, Ryder’s geographic coverage and SCS services enable the Company to serve its large customers’ nationwide transportation needs. Third, the high proportion of contractual revenue with average contract tenor of about four years provides some revenue stability. Finally, recent acquisitions in 2010 and 2011 enhance the Company’s geographic coverages in the Western U.S and the U.K., reducing its exposure to the more volatile automotive and high-tech industries. DBRS understands that business integration with these acquired companies has effectively been completed within expectations and with no material disruption.

While Ryder’s revenue and EBITDA both fell by a substantial 19% in 2009, the Company was able to generate steady operating cash flow ranging between $1.0 billion to $1.2 billion per year since 2006. Given the capital intensity of Ryder’s truck leasing business, depreciation expenses (a non-cash expense item) provides substantial cash flow support and makes up 70% to 80% of operating cash flow. In addition, Ryder’s demonstrated ability to manage its fleet capacity during down cycles through capex curtailment and disposal of inactive vehicles through the used vehicle markets enables the Company to generate strong free cash flow during the 2009 recession.

Ryder’s leverage and financial metrics have weakened steadily since 2009, as the Company increased its debt level to finance (1) a number of acquisitions in 2010 to 2011; (2) increased capex in 2011 related to its rental fleet renewal program (suspended in 2009) to rejuvenate the fleet and lower maintenance costs; and (3) increased truck purchases to support organic growth of the FSL businesses. As a result, cash flow-to-adjusted-debt fell to 30% for the last 12 months (LTM) ended September 30, 2012, from 43% in 2009, while adjusted-debt-to-EBITDA weakened to 2.9x from 2.2x during the same period. The increased debt and reduced equity, due to charges against pension-related liabilities, also resulted in a steadily weakened debt-to-equity ratio from 183% to the peak at 284% (as of June 30, 2012) toward the high end of Ryder’s target of between 250% and 300%.

Although DBRS considers Ryder’s financial metrics still consistent with its BBB (high) ratings, the deterioration has, in DBRS’s view, reduced its cushion against unexpected challenges at this rating level. Our opinion is supported by (1) that the 2.5x to 3.0x (times) debt-to-equity is consistent with the capital structure of similarly rated leasing companies; (2) that the younger rental fleet and enlarged FLS fleet will provide cash flow benefits throughout the asset’s lives; and (3) the counter-cyclical nature of cash flow generation, as demonstrated in 2009. As the current rental fleet renewal program is approaching completion, we expect lower capex levels from 2013 onward, and the Company expects to reduce its debt-to-equity ratio toward the lower half of the target range by the end of 2012 (assuming no additional pension-related charges). With steadier debt level and expected increases in earnings and cash flow, DBRS expects the Company’s debt coverage metrics to improve steadily in the next two to three years.

DBRS notes that its R-1 (low) Commercial Paper rating typically corresponds to an issuer long-term rating of A (low), a notch higher than Ryder’s BBB (high) rating. The exception is justified in view of Ryder’s stable and substantial operating cash flow of $1.0 billion to $1.2 billion through the cycle, a well-dispersed debt maturity schedule with short-term debt typically ranging between 10% and 15% of total debt, good financial flexibility supported by available credit facilities and unutilized receivables sale program, its demonstrated ability to manage its capex and to dispose of inactive used vehicles in a timely manner and a strong business risk position.

The Stable trend reflects, on one hand, that the ratings are constrained by industry cyclicality and Ryder’s current weaker-than-expected financial metrics. On the other hand, it reflects the stability provided by its contracted revenue and strong market position, along with our expectation that Ryder will gradually improve its leverage and coverage metrics in the next two to three years. We also expect that the Company will adhere to its leverage target and proactively scale down its fleet capacity in the event of another market downturn, as it did in 2009. Notwithstanding such an event, DBRS believes the ratings (including the R-1 (low) commercial paper rating) could be pressured if the Company’s financial metrics weaken further, with adjusted cash-flow-to-debt falling below 25% and adjusted debt to EBITDA increasing above 3.0x.

Notes:
All figures are in U.S. dollars unless otherwise noted.

The related regulatory disclosures pursuant to the National Instrument 25-101 Designated Rating Organizations are hereby incorporated by reference and can be found by clicking on the link to the right under Related Research or by contacting us at info@dbrs.com.

The applicable methodology is Rating Companies in the North American Trucking Industry, which can be found on our website under Methodologies.