Fitch Revises M/I Homes Outlook To Negative; Affirms IDR at 'BB'

NEW YORK--(BUSINESS WIRE)--Fitch Ratings has affirmed M/I Homes, Inc. (NYSE:MHO) as follows:

--Issuer Default Rating (IDR) 'BB';

--Senior unsecured debt 'BB';

--Unsecured bank credit facility 'BB';

--Series A non-cumulative perpetual preferred stock 'B+'.

Fitch's rating affirmation applies to approximately $478.7 million in senior unsecured debt. Fitch has also revised MHO's Rating Outlook to Negative from Stable.

The Outlook revision to Negative for MHO reflects the more challenging outlook for homebuilders, the current and expected near term deterioration in certain credit metrics for the company, and pressures from credit tightening, which particularly affect the entry level buyer (a targeted customer at M/I Homes), and high cancellation rates, which add to speculative inventory totals.

The Negative Outlook and ratings take into account MHO's capitalization and size and still relatively heavy (although diminishing) exposure to the economically sluggish Midwest (Columbus, OH, Cincinnati, OH and Indianapolis, IN). Although MHO has been and is currently following an aggressive strategy of paring back land purchases and is reducing debt, it is at risk of challenging its interest coverage covenant late this year (and/or in 2008).

The housing sector is in the midst of a meaningful, multi-year downturn. MHO has been increasing its sales and marketing efforts, focusing on reducing speculative inventory (enlarged by unusually high cancellation rates), reducing its lot supply, reassessing its land positions, renegotiating option contracts and, where possible, reducing overhead and direct construction costs. During this current downturn MHO, like most builders, has leveraged the financial flexibility of land options, walking away from overpriced lots (forfeiting its deposits). These builders also have reported meaningful charges associated with write downs of land values.

Fitch will be monitoring broad housing market trends as well as company-specific activity, such as land and development spending, general inventory levels, speculative inventory activity (including the impact of high cancellation rates on such activity), gross and net new order activity, and free cash flow trends.

Historically, MHO's revenues have been internally generated as it has rarely utilized corporate acquisitions. During the past few years, MHO stepped up its growth as it channeled more capital into its non-Midwestern operations, especially Florida and greater Washington, D.C. Land purchases were $269 million in 2004 and $320 million in 2005. MHO sharply cut back on land purchases to $165 million in 2006 and is expected to spend significantly less in 2007.

MHO, which was the 21st largest U.S. single-family homebuilder in 2006 as ranked by Builder Magazine, had demonstrated solid margin enhancement over recent years with homebuilding EBITDA margins increasing from 6.5% in 1997 to 12.8% in 2005, but slimming to 11.8% (excluding non-recurring real estate charges) in 2006 and 11.2% on a trailing 12 months basis from March 31, 2007. Although MHO benefited from strong economic conditions, a degree of margin enhancement is also attributed to broadened new product offerings and the maturing of key divisions in Florida and Metropolitan Washington D.C. In addition, margins benefited from purchasing, access to capital and other scale economies that have been captured by the large national homebuilders in relation to smaller builders.

These economies, somewhat greater geographic diversification (than in the past), MHO's presale operating strategy and a return-on-capital focus provide the framework to soften the margin impact of declining market conditions in comparison to previous cycles. Up until just recently, acquisitions had not played a part in MHO's operating strategy, as management has preferred to focus on internal growth. However, in July 2005 MHO did acquire Shamrock Homes, a small privately held homebuilder in Lake County, FL that is adjacent to the greater Orlando market where MHO has been building since 1985. Any future acquisitions are likely to be relatively small, either bolt-on to existing operations or entry into new markets.

MHO's inventory turns are moderately below average as compared to its public peers and had slimmed in recent years as the company has made a conscious effort to scale up the share of its communities which it develops (to the advantage of margins). At present, MHO develops about 80% of its communities from which it sells product. In the future, MHO is likely to be less focused on land development. MHO maintains an approximate 5.3-year supply of total lots controlled, based on trailing 12 months deliveries, and 4.7 years of owned land. Total lots controlled were 20,991 at March 31, 2007, 88.4% of which are owned, and the balance is controlled through options. Inventory/net debt stood at 2.3 times (x), providing a buffer against a further downturn in housing markets.

Year-end homebuilding debt-to-capital rather consistently declined from 53.7% in 1997 to 15.6% in 2002. However, leverage rose to 27.9% in 2003, 37.1% in 2004, 44% in 2005 and 49.9% in 2006 (slightly below MHO's leverage target of 50% or less). The debt to capital ratio was down to 37.3% by the end of March 2007. Total adjusted homebuilding debt to adjusted capital was 42.8% as of March 31, 2007. FFO adjusted leverage was 5.3 times (x) at the conclusion of the March quarter. MHO's off-balance sheet activities are principally lot options secured by deposits. Its 26 joint ventures (JVs) and limited liability companies (LLCs) typically are unlevered with the exception of three LLCs. These JVs are typically limited liability companies that engage in land development activities for purpose of distributing developed lots to M/I Homes and its partners in the entities.

MHO maintains a $650 million revolving credit agreement of which $203.9 million were available at the end of first quarter-2007. The credit facility, which matures in October 2010, includes up to $100 million in letters of credit, and has the ability to increase the loan capacity up to $1 billion. In June 2005, MHO sold $50 million of senior notes in a private placement. The notes were sold as an add-on to MHO's $150 million of 6.875% senior notes that were sold in March 2005. These notes are due April 2012. In March 2007, MHO issued $100 million of perpetual, non-cumulative preferred stock that is not callable until March 2012. MHO has in the past and may continue to opportunistically repurchase moderate amounts of its stock. MHO repurchased $17.9 million in stock during 2006. $6.7 million remains in MHO's repurchase authorization.

Fitch's rating definitions and the terms of use of such ratings are available on the agency's public site, www.fitchratings.com. Published ratings, criteria and methodologies are available from this site, at all times. Fitch's code of conduct, confidentiality, conflicts of interest, affiliate firewall, compliance and other relevant policies and procedures are also available from the 'Code of Conduct' section of this site.