Fitch Assigns First-Time 'BB+' Ratings to Vulcan Materials Company; Outlook Stable

CHICAGO--()--Fitch Ratings has assigned initial ratings to Vulcan Materials Company (NYSE: VMC) as follows:

-- Issuer Default Rating at 'BB+';

-- Senior unsecured notes at 'BB+/RR4'.

The Rating Outlook is Stable.

KEY RATING DRIVERS

The rating for Vulcan Materials Company (Vulcan) is based on the company's leading market position in the aggregates industry, geographically diverse quarry network, solid liquidity position and improving credit metrics. The rating also takes into account the relatively stable demand for construction materials prompted by federal and state government funding of transportation projects, high barriers to entry and the operating leverage of the company. Fitch's concerns include the relative volatility of spending on highway construction, the cyclical and seasonal nature of the construction industry and the high level of fixed costs in the company's cost structure.

The Stable Outlook reflects Fitch's expectation of continued improvement in Vulcan's operating and credit metrics this year as well as Fitch's stable macro view of the company's various end-markets for 2015. Fitch forecasts total construction spending as measured by the Census Bureau (Value of Construction Put in Place) will increase approximately 7% in 2015.

LEADERSHIP POSITION

Vulcan is the largest producer of construction aggregates in the U.S. with coast-to-coast operations. Vulcan operated 315 aggregates facilities at fiscal year-end 2014 with 15.8 billion tons of aggregates reserves that principally serve markets in 20 states, Washington D.C. and the local markets surrounding its operations in Mexico and the Bahamas. Management believes that it has the #1 or #2 position in 85% of its markets.

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 the high weight of aggregates makes transportation expensive. Fitch believes that the high barriers to entry can deter new entrants and somewhat limit competition, thereby supporting the sustainability of Vulcan's leading market position over the intermediate to long term.

The company's main focus is on its aggregates business. In 2014, Vulcan completed the sale of its Florida cement and concrete assets to Cementos Argos for gross cash proceeds of $720 million. The company retained all of its aggregates operations in Florida. As part of the transaction, Vulcan entered into a supply agreement to provide aggregates to the divested concrete facility, at market prices, for a period of 20 years.

Vulcan also has asphalt and ready-mixed concrete businesses in certain markets where it has a large aggregates presence. The company considers these downstream products an extension of its aggregates business.

GROWTH STRATEGY

The company seeks to supplement organic growth with selective bolt-on acquisitions. During 2014, Vulcan completed eight transactions that expanded its aggregates business in Arizona, California, New Mexico, Texas, Virginia and Washington D.C., its asphalt business in Arizona and New Mexico, and its ready-mixed concrete operations in New Mexico. The company spent $331.8 million for acquisitions during 2014, including cash of $284.2 million, $45.2 million of stock, and $2.4 million of asset swaps.

In January 2015, the company completed an asset swap with Cemex, S.A.B. de C.V. under which Vulcan exchanged 12 ready-mixed concrete operations in California (representing all of its California concrete operations) for thirteen asphalt plants primarily in Arizona. The addition of the asphalt plants expanded Vulcan's service capabilities in Arizona. The company will continue to supply aggregates to its former ready-mixed concrete plants in California.

The company has in the past been a relatively active acquirer, including between 1999 and 2001 when the company spent about $1.2 billion on acquisitions. In November 2007, the company acquired 100% of the outstanding stock of Florida Rock Industries in a cash and stock deal valued at $4.7 billion ($3.3 billion of cash and $1.4 billion of stock). At that time, Florida Rock was a leading producer of construction aggregates, cement, concrete and concrete products in the southeastern and mid-Atlantic states.

The Florida Rock acquisition also significantly increased Vulcan's debt load just as the great recession and severe construction downturn began. VMC's debt increased from $521.6 million at year-end 2006 to $3.6 billion at the end of 2007. At the same time, total industry aggregates shipped for consumption in the U.S. fell 6.9% in 2007 and dropped a further 12.4% in 2008 and 21.3% in 2009. Vulcan's revenues fell 29.9% from $3.65 billion in 2008 to $2.56 billion in 2010. The company's EBITDA margins declined from a high of 27.9% during 2007 to 14.2% in 2011. Vulcan's leverage increased from 0.6x at year-end 2006 to 7.7x at the end of 2011. The company cut its cash dividend declared per share from $1.96 during 2009 to $0.04 during 2012 and 2013 to preserve liquidity.

Going forward, Fitch expects the company will be more focused on bolt-on acquisitions to expand operations in its current markets. There may also be opportunities to swap assets with other operators where both parties can benefit from the transaction.

CREDIT METRICS

Vulcan's credit metrics have improved significantly from trough levels reported during 2011. Leverage as measured by debt to EBITDA improved from 7.7x at the end of 2011 to 6.0x at year-end 2012, 5.2x at the conclusion of 2013 and 3.4x at the end of 2014. Debt to EBITDA for the latest 12 months (LTM) ended March 31, 2015 was 3.5x, which included the issuance of $400 million of senior unsecured notes and the purchase of $127.3 million of senior notes during the first quarter. The remainder of the new notes was used in April 2015 to redeem $343.8 million of the company's senior notes. On a pro forma basis, Fitch estimates debt to EBITDA was roughly 3.1x for the LTM period ending March 31, 2015.

Fitch expects further improvement in leverage as the company continues to increase EBITDA and maintains current debt levels. Fitch projects leverage will be below 3x by the end of 2015.

EBITDA to interest also increased from 1.6x during 2011 to 1.9x during 2012, 2.4x during 2013, 3.5x during 2014 and 3.9x for the LTM period ending March 31, 2015. Fitch expects interest coverage will settle above 4.5x during 2015.

Management is committed to pursuing and maintaining an investment grade rating and intends to manage leverage (debt to EBITDA) consistently between 2.0x and 2.5x compared with 3.1x on a pro forma basis currently.

LIQUIDITY POSITION

Vulcan has a solid liquidity position with cash of $392.7 million and $446.5 million of borrowing capacity under its $500 million revolving credit facility as of March 31, 2015. (This liquidity was prior to debt redemptions completed in April, 2015.)

The company recently completed a number of transactions that lower Vulcan's interest expense and extend its debt maturities. In March 2015, Vulcan completed the issuance of $400 million of 4.5% senior unsecured notes due 2025. The company used the proceeds from the notes issuance, together with cash and borrowings under the revolving credit facility, to fund the purchase (through tender offers and redemption) of certain of its existing senior notes for $530.9 million (including premiums above the principal amount and transaction costs) during March and April 2015.

With the completion of these transactions, the company only has $150 million of debt maturing in the next three years, including $150 million of senior notes that mature in December 2015. Fitch expects the company will use its revolving credit facility to fund this maturity. The next debt maturity is in 2018, when $522.6 million of senior notes become due.

Vulcan expects to close on a new line of credit in May 2015 that will, among other things, increase the commitment amount from $500 million to $750 million and extend the expiration date from March 2019 to May 2020. This transaction will further enhance Vulcan's liquidity position.

FREE CASH FLOW GENERATION

The company generated free cash flow (FCF: Cash flow from operations less capital expenditures and dividends) of $20.4 million (0.7% FCF margin) during the March 31, 2015 LTM period compared with $6.6 million (0.2% FCF margin) during 2014, $75.8 million (2.7%) in 2013 and $139.9 million (5.4%) in 2012. The FCF during 2013 and 2012 included $153 million and $73.6 million, respectively, of proceeds from the sale of future aggregates production under two volumetric production payment agreements. Fitch projects Vulcan will generate FCF margins of about 2.5%-3.5% during the next few years.

Vulcan increased its quarterly dividend twice during 2014, from $.01 per share to $0.05 per share in February 2014 and $0.06 per share in July 2014. In February 2015, the company further grew its quarterly dividend to $0.10 per share. Fitch expects Vulcan will continue to increase dividends in line with earnings growth.

Fitch projects Vulcan will generate sufficient cash flow to fund capital expenditures and dividends, and excess cash flow will be deployed for bolt-on acquisitions and share repurchases.

CONSTRUCTION SECTOR OUTLOOK

Fitch expects total industry construction spending will increase 7.1% during 2015 following a 5.5% growth in 2014. Private residential construction spending is projected to advance 10.5% while private non-residential construction is expected to grow 7% this year. Public construction spending is projected to increase 3%, although Fitch expects highway spending will perhaps advance at a faster pace.

Fitch expects industry aggregates shipments will grow mid-single-digit percentage this year. Fitch also expects industry aggregates pricing will grow in the low to mid-single-digit range, perhaps modestly higher than the historical long-term industry average annual price growth of 2%-3%.

KEY ASSUMPTIONS

Fitch's key assumptions within its rating case for the issuer include:

-- U.S. construction spending increases 7% during 2015;

-- Vulcan's heritage aggregates shipments and pricing rise mid-single digits during 2015;

-- EBITDA margins improve 200-300 bps during 2015;

-- Debt/EBITDA at year end 2015 settles below 3.0x and interest coverage exceeds 4.5x;

-- Vulcan generates FCF margin of 2.5% - 3.5% during the next few years.

RATING SENSITIVITIES

Future ratings and Outlooks will be influenced by broad construction market trends and how the company manages its capital structure through the cycle, including FCF trends and uses.

Positive rating actions may be considered if the company shows sustained improvement in financial results and credit metrics, including debt to EBITDA consistently below 3.0x, funds from operations (FFO) adjusted leverage approaching 3.5x and interest coverage is sustained above 6.0x.

On the other hand, a negative rating action may be considered if the recovery in the U.S. construction market dissipates and there is a sharp decline in aggregates shipments (perhaps in excess of 10%), leading to weaker than expected credit metrics, including debt to EBITDA levels consistently above 4.0x, FFO adjusted leverage is sustained above 4.5x and interest coverage falls below 3.0x.

Additional information is available at 'www.fitchratings.com'.

Applicable Criteria and Related Research:

-- 'Corporate Rating Methodology' (May 28, 2014);

-- 'Building Materials: Ratings Navigator Companion' (Nov. 11, 2014).

Applicable Criteria and Related Research:

Corporate Rating Methodology - Including Short-Term Ratings and Parent and Subsidiary Linkage
http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=749393

Building Materials: Ratings Navigator Companion
http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=803388

Additional Disclosure

Solicitation Status
http://www.fitchratings.com/gws/en/disclosure/solicitation?pr_id=984453

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Contacts

Fitch Ratings, Inc.
Primary Analyst
Robert Rulla, CPA, +1-312-606-2311
Director
70 W. Madison Street
Chicago, IL 60602
or
Secondary Analyst
Robert Curran, +1-212-908-0515
Managing Director
or
Committee Chairperson
Craig Fraser, +1-212-908-0310
Managing Director
or
Media Relations, New York
Alyssa Castelli, +1-212-908-0540
alyssa.castelli@fitchratings.com
Elizabeth Fogerty, +1-212-908-0526
elizabeth.fogerty@fitchratings.com

Contacts

Fitch Ratings, Inc.
Primary Analyst
Robert Rulla, CPA, +1-312-606-2311
Director
70 W. Madison Street
Chicago, IL 60602
or
Secondary Analyst
Robert Curran, +1-212-908-0515
Managing Director
or
Committee Chairperson
Craig Fraser, +1-212-908-0310
Managing Director
or
Media Relations, New York
Alyssa Castelli, +1-212-908-0540
alyssa.castelli@fitchratings.com
Elizabeth Fogerty, +1-212-908-0526
elizabeth.fogerty@fitchratings.com