DBRS Downgrades CNH Global N.V., Discontinues Its Ratings and Assigns BB (high) Issuer Rating with Stable Trend to CNH Industrial N.V.

DBRS has today downgraded the Issuer Rating of CNH Global N.V. (CNH Global) and the Senior Unsecured Debt ratings of CNH Global and its subsidiary, Case New Holland Inc., to BB (high), with Stable trends, from BBB (low), removed all ratings from Under Review with Negative Implications and, immediately after the rating action, discontinued all aforementioned ratings. At the same time, DBRS has assigned an Issuer Rating of BB (high) to CNH Industrial N.V. (CNHI or the Company), which reflects the Company’s credit quality on a consolidated basis. The trend is Stable. CNHI is the fourth-largest global capital goods manufacturer, with its Industrial Activities (IA) division operating four industrial segments, namely agricultural equipment (AG), construction equipment (CE), truck and commercial vehicles under Iveco and powertrains under FPT. CNHI also provides financial services to support the businesses of its IA division.

The rating actions follow the establishment of CNHI on September 29, 2013, as a new entity from the merger of Fiat Industrial S.p.A. (FI) and CNH Global. DBRS placed the BBB (low) ratings of CNH Global and Case New Holland Inc. Under Review with Negative Implications on June 27, 2013, to reflect that the completion of the proposed merger could expose the Company to the relatively weaker business risk profile of Iveco’s trucks and commercial vehicles and lead to weaker financial metrics on a combined basis resulting from the higher consolidated debt level of the IA division. With the completion of the merger, and having assessed the business and financial risk profiles of the merged entity, DBRS believes that they have weakened compared to those of CNH Global alone, and that a one-notch lower rating of BB (high) with a Stable trend, which is now assigned to CNHI, is appropriate.

The new rating on CNHI reflects that the strong business risk profile of CNHI’s AG business is partly offset by challenges facing its CE business due to slow construction activities and facing Iveco due to weak demand conditions and declining market share in Europe in the past two years. In addition, the rating also reflects CNHI’s relatively higher debt level at the IA operations (compared to CNH Global’s previously), which results in financial metrics consistent with the rating. DBRS notes that the merger and recent measures taken by CNHI could eventually improve its credit profile over the medium term. These efforts include (1) the Company’s intention to reduce its IA division’s borrowing over time as its Financial Services (FS) division increases its access to the external debt market and reduces its sizable intersegment borrowing from IA (about EUR 4.3 billion at June 30, 2013), (2) right-sizing and cost efficiency improvement measures at both CE and Iveco over the past two years, which should enable them to improve profitability as demand recovers and (3) synergy expected with the vertical integration of FPT into AG, CE and Iveco’s operations. The Stable trend reflects DBRS’s expectation that meaningful profitability improvement and leverage reduction will take time to materialize and will depend on the recovery of the CE and Iveco segments.

Operationally, CNHI’s AG segment is among the global leaders in agricultural equipment. The segment is stable, with revenue supported by good geographic diversity and a comprehensive product range, as well as strong long-term demand fundamentals (with steadily increasing food demand as population and income continue to grow in developing countries), firm food prices and increasing farmer income. CNHI enjoys a strong market position in all core regions, with leading market shares along with Deere & Company and AGCO Corporation, its two main competitors. With its capacity expansion in China and Argentina and continued product developments, AG is well positioned to capture demand growth in emerging markets and maintain its market position.

However, the Company’s strengths in the AG segment are partly offset by the relatively higher business risks facing both the relatively smaller CE and Iveco segments. The CE segment faces more volatile and competitive markets as demand is correlated with cyclical construction activities, which in turn are sensitive to economic conditions and government infrastructure spending. CE’s market position is also relatively weaker, generally among the top-ten manufacturers in key markets, with intense competition from large global players (e.g., Caterpillar Inc., Komatsu Ltd. and AB Volvo) and small regional manufacturers (especially in developing markets). Previously anticipated demand recovery for CE’s market was not sustained after the strong first quarter of 2012. Despite improvement in housing starts in the United States, the CE industry has experienced declining demand in all regional markets as a result of the continued economic weakness and fiscal spending austerity in Europe as well as slower growth in the emerging economies in Asia.

CNHI’s trucks and commercial vehicles business under Iveco also faces challenges due to soft market demand and intense competitive pressure, particularly in the Western European markets. Iveco is the fifth-largest global truck and commercial vehicles manufacturer behind Daimler AG, AB Volvo and MAN Group, with a relatively stronger share in the medium-sized (between six and 16 tonnes) trucks market and sales to Europe making up about half of unit sales (excluding those in China through its joint ventures). Iveco’s market share in its key Western European market has gradually declined in the last two years to 11.3% in the first half of 2013 from 13.2% in 2010, as estimated by the Company. Stronger sales growth in Latin America was, however, offset by weak sales in Russia and Turkey. While the Company expects a smaller decline in demand in Europe in the remainder of 2013, DBRS believes that recovery could take longer and material improvement in revenue and profit contribution from this segment is not expected in the next one to two years. It is important to note that the segment’s production and sales in the rapidly growing market in China are conducted through two joint ventures, which together accounted for approximately 131,400 units of vehicle sales in 2012 (in addition to total global unit sales of 137,000 directly by Iveco). Sales revenue and profitability in the Chinese market are not consolidated as Iveco’s shares in these joint ventures are at or below 50%.

CNHI expects global demand for the CE industry for full-year 2013 and European demand for trucks and commercial vehicles to remain flat or decline by up to 5%, while competitive pressures are likely to limit any pricing flexibility in the medium term. Hence, DBRS expects both the CE and Iveco segments to maintain their focus on capacity management, containment of production costs and inventory levels, while defending their respective market shares through continued technological improvement in their product portfolios. Until any material improvements in CE and Iveco materialize, DBRS believes that CNHI will continue to depend substantially on the stronger AG segment for its profitability and cash flow generation. Contribution from FPT is also expected to remain modest as a large proportion of its production is used internally and external revenue only makes up about one-third of FPT’s total.

DBRS considers the financial statements of FI’s IA division (with FS accounted for with the equity method) as an appropriate proxy for its assessment of earnings and the financial profile of the recently established CNHI. FI’s financial statements have already consolidated the AG and CE operations previously under CNH Global (as an 87% subsidiary). The increase in ownership to 100% under CNHI will merely be reflected in the elimination of minority interests. Overall operating results for FI’s IA division have remained satisfactory, as continued revenue growth and an improving operating margin in the much larger AG segment more than offset weaknesses in CE and Iveco. Debt levels at FI have been consistently higher than those at CNH Global because of the borrowing at the FI company level to finance its Iveco and FPT segments. Despite a moderate increase in debt levels in the past two years, partly to finance capex in the AG segment related to production facility expansions in China and Argentina, financial metrics have been steady. FI’s financial metrics were weaker when compared to CNH Global alone and DBRS considers them consistent with CNHI’s ratings. Comparatively, FI’s debt-to-EBITDA was 3.7 times (x) (versus CNH Global’s 1.9x) for the last 12 months (LTM) ended June 30, 2013, its cash flow-to-debt was 20% (37%) and its debt-to-capital was 63% (32%). DBRS understands that FI’s FS division is currently capitalized with a debt-to-equity ratio of 9.0x to 10.0x and expects the capital structure to be maintained in the medium term under CNHI.

DBRS notes that CNHI’s liquidity was healthy, with substantial cash resources readily available to cover its near-term cash uses. As at June 30, 2013, the IA division had cash balances of EUR 2.5 billion, in addition to operating cash flow (about EUR 1.7 billion in each of the past two years) and about EUR 1.2 billion in available committed medium-term credit facilities. This is adequate to cover its consolidated short-term debt of EUR 2.7 billion (EUR 1.0 billion of which was already repaid on September 2013) and other operating and capital spending needs for the year. The FS division relies on asset-backed securities and factoring markets to provide a substantial proportion of its funding needs. Although the division is seeking to diversify its funding sources through access to the bond market and substantial credit facility arrangements, DBRS believes that the shift will take time and that the FS division remains exposed to potential disruption of these asset-based funding markets. If and when that happens, it may require liquidity support from the IA division.

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

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