NEW YORK--(BUSINESS WIRE)--Fitch Ratings has affirmed American Honda Finance Corporation's (AHFC) short-term Issuer Default Rating (IDR) and commercial paper rating at 'F1'. The rating affirmation of AHFC follows today's rating affirmation of AHFC's ultimate parent, Honda Motor Co. Ltd. (HMC, 'A/F1'/Outlook Stable).
KEY RATING DRIVERS
IDR AND COMMERCIAL PAPER
AHFC's ratings are equalized with HMC's ratings, as Fitch views AHFC as a core subsidiary of HMC, as demonstrated by a high percentage of HMC's U.S. sales financed by AHFC, strong operational and financial linkages between the two companies, and a support ('keep well') agreement provided directly by HMC to AHFC.
In addition to the institutional support considerations, AHFC's risk profile is further supported by its demonstrated underwriting and asset quality track record, strong margins, lower leverage relative to auto captive finance peers, a predominantly unsecured funding profile and a lack of upstream dividends to HMC. Standalone credit constraints include moderately declining profitability, modest interest coverage and partial reliance on commercial paper funding.
AHFC's very strong credit quality performance is a testament to the company's robust and conservative underwriting standards. The company's credit losses have been consistently below industry averages, having posted a net charge-off rate of 0.29% in fiscal 1Q17 (period ending June 30, 2016). AHFC's 60+ day delinquencies have also remained solid and consistently below 0.25%. The net charge-off and 60+ day delinquency rates were 0.33% and 0.15%, respectively, for its fiscal year ended March 31, 2016. Delinquency and net charge-off rates have crept up from FYE 2015 (March 31, 2015) levels of 0.26% and 0.10%, respectively, driven primarily by the extension of loan terms to remain competitive with other lenders over the past few years. Nonetheless, AHFC's average loan term on new and used vehicles remains below that of most of its competitors. Fitch expects asset quality performance will remain solid into calendar year 2017 (CY17) but normalize from current levels driven by the extension of the average loan term and an expected moderation in used car values.
AHFC's profitability continues to experience downward pressure after reaching record levels in FY10 and FY11, which was driven by reserve releases from improved credit performance and residual value gains due to unusually high used car values. Pre-tax income, excluding fair value changes related to derivatives and foreign currency revaluation of debt, measured $1.5 billion in FYE 2016, down 5% from $1.6 billion in FYE 2015. The earnings decline was primarily due to a decline in net interest income on lower retail auto loan balances and a higher loan loss provision, partially offset by higher operating lease income. Pre-tax margin was a solid 21% in FYE 2016, although down from 23.9% in FYE 2015. Return on equity was 7.4% in FYE 2016 and reflects the relatively low leverage and higher capitalization of AHFC compared to its peers. Fitch expects AHFC to be solidly profitable in CY17 given expected lease portfolio growth and continued strong credit performance. However, the company's profitability does face headwinds in terms of further credit normalization and intense competition in the prime auto finance sector.
AHFC's leverage, measured as debt to tangible equity, was 3.7x at June 30, 2016. Tangible equity to total assets measured 18.1% at June 30, 2016. Fitch believes these ratios are strong compared to AHFC's auto captive peers and other captive finance companies, particularly when considering the peer-superior credit quality performance of AHFC's loan and lease portfolio. Most captives manage their leverage ratios via dividend payments to their parent companies. However, HMC has never taken any dividends out of AHFC, instead choosing to retain earnings at AHFC to support asset growth. Fitch views AHFC's conservative capital strategy positively and believes that its creditors benefit from a higher level of unencumbered asset coverage compared to its peers.
AHFC's funding profile has improved in recent years and includes diverse sources of funding including U.S. and Euro medium-term unsecured notes, unsecured bank loans, intercompany debt, commercial paper (CP), and asset-backed securitization (ABS) debt. In addition, AHFC maintains a relatively low level of encumbered assets relative to peers, with roughly 82% of its funding being composed of unsecured debt as of June 30, 2016. Over the past several years, AHFC has lengthened the maturities of its long-term debt which is improving its liquidity profile and reducing refinancing risk. The company also aims to extend its unsecured term debt maturities so that approximately 30% of its outstanding unsecured debt matures in any one year.
AHFC relies on diversified funding sources and cash flow from operations for its liquidity needs. As of June 30, 2016, cash on the balance sheet measured $708 million, which is relatively low compared to some of its peers. Contingent liquidity is provided by a $7 billion undrawn bank credit facility from a consortium of banks and a separate $1 billion committed unsecured bank credit facility that was also undrawn as of June 30, 2016. As of June 30, 2016, AHFC had $22 billion of debt coming due within one year. However, a significant portion of this debt is commercial paper, which is expected to roll over/refinance and is further supported by committed third party liquidity support facilities. Fitch also views AHFC's low leverage levels, high quality of its unencumbered loan/lease portfolio, and lack of dividend distributions to its parent as offsets to the relatively low level of absolute liquidity.
The commercial paper rating is equalized with AHFC's short-term IDR reflecting that it ranks pari passu with other senior unsecured obligations of the company and is supported by committed third party liquidity facilities from appropriately rated counterparties which serves to ensure the timely repayment of such instruments.
IDR AND COMMERCIAL PAPER
AHFC's IDR is linked to that of its parent, HMC and therefore is primarily sensitive to changes in HMC's IDR. However, negative rating action for AHFC could also be driven by a change in the perceived relationship between HMC and AHFC such that AHFC becomes a less core subsidiary of HMC. Additionally, a material weakening in the company's liquidity profile, asset quality or capitalization could also yield negative rating action. Since AHFC's ratings are linked to HMC's ratings, Fitch cannot envision a scenario where AHFC would be rated higher than its parent.
Given that the commercial paper rating is equalized with AHFC's IDR, it is sensitive to changes in AHFC's IDR.
The rating actions are as follows:
Fitch has affirmed the following ratings:
--Short-term IDR at 'F1'
--Commercial paper at 'F1'
Additional information is available on www.fitchratings.com
Global Non-Bank Financial Institutions Rating Criteria (pub. 15 Jul 2016)
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