Moody’s Investors Service (Moody’s) has today affirmed the corporate family rating (CFR) of Miller Homes Group (finco) PLC (Miller Homes or the company), the indirect parent company of UK homebuilder Miller Homes group, of B1 and probability of default rating (PDR) of B1-PD. Concurrently, Moody’s has affirmed the B1 instrument ratings of the company’s £425 million backed senior secured fixed rate notes due 2029 and €465 million backed senior secured floating rate notes due 2028 issued by the company. The outlook on all ratings is changed to negative from stable.
RATINGS RATIONALE
The change in outlook to negative from stable reflects the risk that Miller Homes’ key ratios will deteriorate and remain weaker than expected for the B1 rating category. This is in an environment of a slowdown of the UK homebuilding market with higher mortgage rates, lower house prices and expectations of decreasing number of sold houses in 2023. Moody’s expects Miller Homes’ Moody’s adjusted EBIT interest cover to deteriorate to around 2x in 2023 before recovering to around 2.5x in 2024 from approximately 2.7x in 2022 pro-forma for the new capital structure. The company’s Moody’s adjusted debt to EBITDA will increase to around 6x in 2023 from approximately 4.1x in 2022.
Under an updated base case Moody’s expects a low to mid-single digit decline in average selling price and a double-digits decline in the number of completions in 2023 amid higher mortgage rates which more than doubled over the course of 2022 This is will result in the company’s Moody’s adjusted EBITDA decreasing to around £140-150 million in 2023 before recovering towards £200 million in 2024 compared with approximately £220 million achieved in 2022. More positively, Moody’s notes that the company has a relatively good level of revenue visibility with £481 million forward sales secured at the end of 2022, which represents 41% of the year’s revenue.
Miller Homes’ Moody’s adjusted debt / book capitalisation has been gradually improving thanks to its growing retained earnings: approximately 61% in 2022 from around 65% pro-forma estimated in 2021. Moody’s expects that Miller will generate approximately £50 million net income on average in 2023 and 2024 which will allow the company to de-lever towards 55% over the next two years.
Moody’s also expect Miller Homes to maintain solid liquidity. Following company’s strategic decision to reduce investments in land in the second half of 2022 the company accumulated £190 million cash on balance sheet. The company’s free cash flow will likely breakeven at best in 2023 and 2024 as investment volumes and construction activity will be gradually recovering, however, the pace of investment remains largely discretionary and should be sufficiently covered from the company’s internal sources.
Miller Homes’ B1 CFR is constrained by: (1) relatively smaller scale and weaker access to capital compared to the larger UK peers, although with a much closer competitive position in the regions where Miller Homes is present; (2) high leverage and weak interest cover; (3) macroeconomic and geopolitical uncertainty, which under a downside scenario may result in a prolonged decline in consumer confidence and ongoing negative impact on housing market.
The CFR is supported by: (1) Miller Homes’ solid track record of growing the business while maintaining healthy margins; (2) Miller Homes’ focus on the UK regions with relatively better affordability rates, providing a degree of resilience to demand; (3) its strategic landbank and established land acquisition strategy which supports sustainable business growth; (4) solid liquidity, which benefits from counter-cyclical working capital movements.
ESG CONSIDERATIONS
Miller Homes is owned by funds managed by Apollo. Moody’s regards PE ownership structures to be more prone towards more aggressive financial policies, such as high tolerance for leverage and potentially high appetite for shareholder-friendly actions.
LIQUIDITY
Moody’s considers Miller Homes’ liquidity to be adequate. The group’s internal cash sources comprise around £190 million of cash on balance as of December 2022, as well as access to £180 million super senior revolving credit facility (RCF), which Moody’s expects to remain largely undrawn. All these funds will comfortably cover all expected cash needs in the next 12-18 months.
The company has one springing minimum inventory covenant attached to the new RCF which is set with significant headroom.
STRUCTURAL CONSIDERATIONS
The notes are guaranteed by material subsidiaries of the group which own more than 90% of the group’s assets and EBITDA. The notes are also secured by a floating charge over Miller Homes assets and share pledges. Moody’s assumes a standard recovery rate of 50%, which reflects the covenant lite nature of the debt documentation.
The B1 instrument ratings of the notes – in line with the CFR – reflects the company’s capital structure which consists of the backed senior secured notes as the main class of debt. Moody’s excludes the land payables from its loss-given-default (LGD) model which the rating agency uses to determine ranking, because these obligations are effectively fully covered by the fixed charge over the respective value of land.
RATING OUTLOOK
The negative outlook reflects the elevated risk of decline in topline and profitability over the next 12 to 18 months, which could lead to credit metrics no longer commensurate with a B1 CFR.
FACTORS THAT COULD LEAD TO AN UPGRADE OR DOWNGRADE OF THE RATINGS
Factors that could lead to an upgrade Moody’s could upgrade the company’s rating if: (1) revenue grows above $2.5 billion while the company maintains a gross margin around current levels; (2) debt to book capitalisation is sustained below 45%, with debt to EBITDA below 4x coupled with substantial cash on balance sheet; (3) EBIT interest coverage improves towards 4x; and (4) stable economic and homebuilding industry conditions in the UK remain. An upgrade would also require Miller Homes to generate strong free cash flow while maintaining a good liquidity profile.
Factors that could lead to a downgrade: downward pressure could materialise if (1) debt to book capitalisation is sustained above 60% or debt to EBITDA is sustained above 5x (assuming significant cash balance); (2) EBIT / interest reduces below 2.5x for a prolonged time; (3) gross margin falls meaningfully below current levels; (4) Miller Homes fails to maintain an adequate land bank in line with current levels; (5) the company uses debt to fund substantial land purchases, acquisitions or shareholder distributions; or (6) the company’s liquidity profile deteriorates.
