DBRS Morningstar Upgrades Toromont Industries Ltd. to A (low) from BBB (high), Trend Changed to Stable

DBRS Limited (DBRS Morningstar) upgraded the Issuer Rating and Senior Unsecured Debentures rating of Toromont Industries Ltd.’s (Toromont or the Company) to A (low) from BBB (high). The trend on the ratings has been changed to Stable from Positive. The rating actions reflect Toromont’s improved operating performance over the past few years and its successful deleveraging after the debt-financed acquisition of Hewitt in 2017, which together have caused the financial risk profile to migrate above the previously assigned ratings.

On June 29, 2021, DBRS Morningstar indicated that Toromont's ratings would likely be upgraded if the Company’s operating performance remained relatively stable throughout F2021 and credit metrics remained in the high end of the “A” range. Toromont’s F2021 earnings were largely in line with DBRS Morningstar's expectations. Revenue grew 11.7% year over year (YOY) to $3,887 million, slightly below DBRS Morningstar's previous forecast of approximately $4 billion. Revenue growth was mostly driven by strong demand for equipment and product support amid increasing economic activities and business confidence within the Company’s operating regions, but was also constrained by the availability of equipment and parts. EBITDA increased to $634 million in F2021, resulting in an expansion of EBITDA margins to 16.3% (15.6% in F2020), which exceeded DBRS Morningstar's previous forecast of being in the 15% range. The improvement in EBITDA is attributable to higher gross margins and well-controlled operating expenses in the Equipment Group, partially offset by some slippage in gross margins in the CIMCO business (CIMCO provides design, engineering, fabrication, installation, and product support services for industrial and recreational refrigeration systems in the U.S. and Canada). During the first three months of F2022, revenues and EBITDA continued to improve YOY, reaching $860 million and $125 million, respectively, versus $806 million and $109 million, respectively, in Q1 F2021. Toromont's net free cash flow (FCF) after changes in working capital was $365 million in F2021, reflecting the Company’s strong cash generation capabilities as well as the constrained availability of equipment and parts from Caterpillar Inc. (CAT; rated “A” by DBRS Morningstar), which led to lower investments in inventory and rental equipment. Net FCF for the first three months in F2022 was negative at $122 million, mostly because of higher investments in inventory as the Company prepared for the subsequent selling season. As of March 31, 2022, Toromont had a net cash position of $149 million (excluding lease liabilities). Overall credit metrics strengthened moderately in F2021 and through the last 12 months ended March 31, 2022, with adjusted debt-to-EBITDA decreasing to 1.05 times (x) and 1.03x respectively, compared with 1.20x in F2020.

DBRS Morningstar forecasts Toromont’s revenues to grow further in F2022, albeit at a moderated rate compared with F2021, supported by solid levels of construction activities from infrastructure, commercial, and general construction, as well as from improving mining activities driven by high commodity prices. CIMCO’s revenues are expected to be supported by the installed base, which provides a steady product support revenue stream, but they are subject to fluctuation related to the timing of projects. DBRS Morningstar's forecast also considers the near-term headwinds associated with supply chain constraints, tight labour pool of qualified technicians, inflationary pressures, and uncertainties surrounding the macroeconomic outlook because of rising interest rates. EBITDA margins will likely soften slightly compared with F2021, albeit still remaining in the 15% range. In the medium to long term, DBRS Morningstar expects Toromont to benefit from the economic growth and continued infrastructure spendings in Eastern Canada, particularly in Ontario and Québec, as well as from its large installed base of equipment that drives high-margin product support sales. Further, the Company is well positioned to gain additional market share from expanding its rental operations.

DBRS Morningstar expects that Toromont's will generate significantly lower net FCF in F2022 versus F2021, primarily as a result of anticipated higher investments in inventory and rental equipment to support sales growth and rental operation expansion. Dividend payments in F2022 are estimated to be around $126 million. DBRS Morningstar anticipates that Toromont's ample cash on hand and operating cash flow will be sufficient to cover all the cash usage, and no additional borrowings will be needed. DBRS Morningstar expects Toromont to continue to invest in the business, mostly through expanding rental operations and adding complementary products and services, and simultaneously adhere to its conservative financial policy and disciplined cash management as displayed in the past.

The ratings continue to be underpinned by Toromont’s robust and stable business risk profile as the exclusive CAT equipment dealer with full-service capability in all of Eastern Canada and by the Company’s strong market position in its sales territories. DBRS Morningstar sees limited upside potential to the ratings in the near to medium term, absent any material acquisition that would bolster Toromont’s size and geographic footprint meaningfully. DBRS Morningstar also acknowledges that the Company has built up a cushion in its financial risk profile to absorb a temporary deterioration in operating performance.

ENVIRONMENTAL, SOCIAL, GOVERNANCE CONSIDERATIONS
There were no Environmental/Social/Governance factors that had a significant or relevant effect on the credit analysis.

A description of how DBRS Morningstar considers ESG factors within the DBRS Morningstar analytical framework can be found in the DBRS Morningstar Criteria: Approach to Environmental, Social, and Governance Risk Factors in Credit Ratings at https://www.dbrsmorningstar.com/research/396929.

Notes:
All figures are in Canadian dollars unless otherwise noted.

The principal methodology is Rating Companies in the Capital Goods Dealership Industry (April 19, 2022; https://www.dbrsmorningstar.com/research/ 395413), which can be found on dbrsmorningstar.com under Methodologies & Criteria. Other applicable methodologies include the DBRS Morningstar Criteria: Approach to Environmental, Social, and Governance Risk Factors in Credit Ratings (May 17, 2022; https://www.dbrsmorningstar.com/research/396929)

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 under Related Documents or by contacting us at [email protected].]

The rated entity or its related entities did participate in the rating process for this rating action. DBRS Morningstar had access to the accounts and other relevant internal documents of the rated entity or its related entities in connection with this rating action.

The conditions that lead to the assignment of a Negative or Positive trend are generally resolved within a 12-month period. DBRS Morningstar trends and ratings are under regular surveillance.

For more information on this credit or on this industry, visit www.dbrsmorningstar.com or contact us at [email protected].

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