Fitch Ratings has affirmed Vulcan Materials Company's ratings (VMC), including the company's Long-Term Issuer Default Rating (IDR) at 'BBB'.
Fitch has also assigned a Short-Term IDR of 'F2' and an 'F2' rating to the company's Commercial Paper Program. The Rating Outlook is Stable.
Short-Term Rating: Based on Fitch's assessment of Vulcan's strong financial flexibility, financial structure and solid operating environment, the higher of the two short-term options for the current profile has been assigned. Any material weakening in financial flexibility, financial structure or operating market conditions could lead to the assignment of the lower of the two short-term rating options for the Long-Term IDR.
Key Rating Drivers
Short-Term Rating Rationale: Vulcan's 'F2' Short-Term IDR reflects the higher of the two short-term rating options for issuers with a 'BBB' Long-Term IDR. The 'F2' Short-Term IDR is supported by the company's good financial flexibility, financial structure and operating environment. Vulcan's financial structure subfactor of 'bbb', financial flexibility subfactor of 'a-' with very comfortable liquidity of 'aa' and a well-spread maturity schedule of long-term debt all support the 'F2' Short-Term IDR.
Vulcan's financial structure is appropriate for the rating, and the operating environment is not a rating constraint, as the company predominantly operates in the U.S. Combined, these factors support the 'F2' Short-Term IDR and Commercial Paper Rating.
The following factors are Key Rating Drivers for the company's 'BBB' Long-Term IDR.
Improving Credit Metrics: Vulcan's Fitch-calculated total debt to operating EBITDA for the LTM ending June 30, 2022 was 2.7x, close to Fitch's negative rating sensitivity of 2.8x. Fitch expects the company to return to within management's stated leverage target range of 2.0x-2.5x (total debt to adjusted EBITDA) by YE 2022.
Management has a good track record of successfully lowering its leverage following a sizeable acquisition. This occurred following acquisitions in 2017 and 2018, when leverage exceeded the upper range of management's leverage target, but returned to within that range in a reasonable time frame.
Beneficial Operating Environment: Fitch forecasts a growing demand environment in 2022 and 2023 for building materials companies. Fitch expects the private non-residential and public construction end-markets to grow by low to mid-single digits this year following declines in 2021, while residential construction activity grows modestly supported by high backlogs and elongated build cycles for many homebuilders.
Risks remain that rapidly rising interest and mortgage rates, input cost inflation, and disrupted supply chains will weigh on demand in the construction end-markets. However, the Infrastructure Investment and Jobs Act and non-residential construction's tendency to follow growth in residential construction should support demand for building materials beyond 2022.
Strong Profitability and Cash Flow Generation: Vulcan's EBITDA margins were 25.9% in 2021, and despite the capital intensity of the business, FCF margins were 6.4% in 2021 and 10.8% in 2020. Fitch expects EBITDA margins to decline to about 22.0% in 2022 due to a full year contribution of U.S. Concrete's results, the shutdown of the Mexico operations, and cost inflation. Fitch expects 2022 FCF margins to decline to about 3.0% from higher growth capex.
Leading Market Position: Vulcan is the largest producer of construction aggregates in the U.S. with over 400 active aggregates facilities serving markets in 22 states, Washington, D.C., and the local markets surrounding its operations in Canada, Mexico, and the Bahamas. Management believes that 80% of its revenues are derived from markets where the company has the No. 1. or No. 2 position.
In addition, Vulcan has asphalt and ready-mixed concrete businesses in certain markets where it has an established aggregates presence. Fitch believes that the company's leadership position, combined with vertical integration in certain of its markets, provides it with economies of scale and some pricing power.
Diverse Revenue Sources: Vulcan's revenues are predominately derived from U.S. construction activity but are balanced between residential, commercial, and public end-markets, which provides exposure to sectors with differing cycles. The company's operations are also diverse geographically across the U.S., with exposure skewed to construction markets that Fitch expects to experience relatively higher growth, such as Texas and the Southeast.
While the exposure to the highly cyclical new construction markets is a risk to the stability of profitability through economic cycles, Fitch believes the strong diversity of those end-markets helps partially insulate Vulcan from cyclical and/or regional downturns, providing some stability to credit metrics through the cycle.
Sound Capital Allocation Strategy: Vulcan has a well-defined through-the-cycle capital allocation strategy focused on maintaining an investment-grade rating and having access to the capital markets at all points in the cycle. As the coronavirus pandemic led to significant uncertainty in 2020, management pulled back on growth expenditures, share repurchases, and acquisitions.
Barriers to Entry: Barriers to entry in the aggregates industry are high, as there are increasingly more stringent zoning and environmental restrictions that can limit new quarry development. Additionally, the aggregates business is capital intensive and high transportation costs make it cost-prohibitive to haul aggregates long distances by truck. This can deter new entrants and limit competition, supporting the sustainability of Vulcan's leading market position over the intermediate to long term.
Disruption of Mexico Operations: The Mexican government has suspended the company's three-year customs permit granted in March 2022 and has begun a proceeding that could result in the permit's revocation. The permit enables Vulcan's subsidiary to export its production to the U.S.; absent the customs permit, no export or import operations of any kind may be conducted at the port terminal.
Fitch views this as a credit negative given the potential EBITDA impact and the possibility that it could weigh on its competitive position in certain markets. Nevertheless, the Mexico operations represent a relatively small part of the company's overall revenues and EBITDA and should not have a material impact on Vulcan's credit profile.
Vulcan's credit metrics are stronger than those of Martin Marietta Materials, Inc. (NYSE: MLM; BBB/Stable), which had pro forma gross and net debt to operating EBITDA for the LTM period ended June, 30, 2022 of about 3.3x and 2.8x, respectively.
Vulcan and Martin Marietta are relatively similar in size and both maintain leadership positions in the markets in which they operate. Vulcan derives a modestly larger portion of its revenues from aggregates. Both have exposure to downstream products, while Martin Marietta also has cement and specialty products operations. Both companies are well-diversified across the U.S. with a heavy presence in southeastern states such as Georgia and the Carolinas, though Martin Marietta has more facilities in Texas and Colorado, while Vulcan has more exposure to California, Arizona, and the Northeastern U.S.
Vulcan is considerably smaller than CRH plc (NYSE: CRH; BBB+/Stable) and is not as geographically diverse. CRH currently has stronger credit metrics with total debt to operating EBITDA of around 2.1x, though Vulcan has stronger EBITDA and FCF margins.
Revenues grow about 25% in 2022 and mid-single digits in 2023;
Mexico operations assumed to be disrupted for the rest of 2022;
Operating EBITDA margins of 22.0% in 2022 and 24.0% in 2023;
Low to mid-single digit FCF margins in 2022 and 2023;
FCF is used for acquisitions in 2022 and 2023;
Total debt to operating EBITDA of 2.5x at YE 2022 and 2.2x at YE 2023.
Factors that could, individually or collectively, lead to positive rating action/upgrade:
Management adopts a more conservative leverage target, leading to Fitch's expectation that leverage will be sustained at or below 2.0x on a longer-term basis.
Factors that could, individually or collectively, lead to negative rating action/downgrade:
Fitch's expectation that total debt to operating EBITDA will sustain above 2.8x;
Fitch's expectation that net debt to operating EBITDA will sustain above 2.5x.
Material increased reliance on short-term borrowings (CP or revolving credit facility) to fund long-term investments, working capital or other debt service needs.
Best/Worst Case Rating Scenario
International scale credit ratings of Non-Financial Corporate issuers have a best-case rating upgrade scenario (defined as the 99th percentile of rating transitions, measured in a positive direction) of three notches over a three-year rating horizon; and a worst-case rating downgrade scenario (defined as the 99th percentile of rating transitions, measured in a negative direction) of four notches over three years. The complete span of best- and worst-case scenario credit ratings for all rating categories ranges from 'AAA' to 'D'. Best- and worst-case scenario credit ratings are based on historical performance. For more information about the methodology used to determine sector-specific best- and worst-case scenario credit ratings, visit https://www.fitchratings.com/site/re/10111579.
Liquidity and Debt Structure
Strong Liquidity Position: On June 30, 2022, Vulcan had $120.7 million of unrestricted cash on its balance sheet, and as of Aug. 8, 2022, the company had $1.397 billion of borrowing availability under its $1.6 billion unsecured revolving credit facility that matures in August 2027. There was $125.0 million outstanding and $78.1 million of letters of credit issued under the facility. The upsizing of the company's revolver to $1.6 billion meaningfully improves its already-strong liquidity position. Fitch understands that that the maximum amount of the commercial paper facility will be 100% backstopped by the revolver (i.e. combined borrowings outstanding under the facilities not to exceed $1.6 billion).
Debt Maturities: The company has no maturities until 2025, when $400 million of notes come due. Fitch expects the company to be in a position to either repay or access the capital markets to refinance this maturity.
Vulcan Materials Company is the largest producer of construction aggregates (crushed stone, sand, and gravel) used for the construction of infrastructure, non-residential, and residential projects. Vulcan has over 400 active aggregates facilities, servicing customers in 22 states.
REFERENCES FOR SUBSTANTIALLY MATERIAL SOURCE CITED AS KEY DRIVER OF RATING
The principal sources of information used in the analysis are described in the Applicable Criteria.
Unless otherwise disclosed in this section, the highest level of ESG credit relevance is a score of '3'. This means ESG issues are credit-neutral or have only a minimal credit impact on the entity, either due to their nature or the way in which they are being managed by the entity. For more information on Fitch's ESG Relevance Scores, visit www.fitchratings.com/esg.