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Rating Action:

MOODY'S ASSIGNS B1 RATING TO CONVERTIBLE SENIOR SUB NOTES OF WALTER INDUSTRIES, INC.; CONFIRMS ALL OTHER RATINGS

13 Apr 2004
MOODY'S ASSIGNS B1 RATING TO CONVERTIBLE SENIOR SUB NOTES OF WALTER INDUSTRIES, INC.; CONFIRMS ALL OTHER RATINGS

Approximately $395 Million of Debt Securities Affected.

New York, April 13, 2004 -- Moody's Investors Service assigned a B1 rating to the new convertible senior subordinated notes of Walter Industries, Inc. At the same time, Moody's confirmed Walter Industries' Ba2 senior implied rating, Ba2 rating on its bank credit facility, and a Ba3 issuer rating. The ratings outlook is stable.

The stable ratings outlook reflects Moody's expectation that the company will be able to offset the margin erosion from rising scrap metal costs at its core U.S. Pipe segment through price increases of its own, will continue with its product line rationalization, will maintain capital structure discipline by using its free cash flow both to pay down debt as well as to buy back shares, and will, after a transitional year in 2004, re-establish the former profitability levels of its core homebuilding segment.

The ratings consider the prior success of Walter Industries' business model in homebuilding and financing despite the company's catering to a customer base possessing a below-average credit quality profile. The ratings also acknowledge that the company generates free cash flow on a regular basis and has been able to delever its balance sheet, repaying approximately $600 million of debt since 1997. Leverage ratios for the company (excluding its financing subsidiary) are strong for the rating, with year-end 2003 pro forma debt/capitalization of 45.2% and pro forma debt/EBITDA of 2.2x.

At the same time, the ratings reflect that Walter Industries still has some distance to go before being able to pare back to its three core operations (homebuilding, financing, and U.S. Pipe) and that even its core operations had problems in 2003 that need correcting. Top line results have been flat for four years while bottom line results, reflecting, in part, unusual, non-recurring, extraordinary, or other charges (largely non-cash), have been erratic over the same period. The company carries significant postretirement benefit obligations ($290 million at 12/31/03) and other liabilities ($202 million at 12/31/03). Further, its pension fund has moved from an overfunded to an underfunded position, and minimum funding obligations in 2005 and 2006 will be substantially larger than those estimated for 2004.

The ratings assigned and confirmed are listed as follows:

Ba2 senior implied rating is confirmed

Ba2 on the $245 million, five-year senior secured revolving credit facility is confirmed

Ba3 issuer rating is confirmed

B1 rating on the (approximately) $150 million of convertible senior subordinated notes due 2024 is assigned.

Proceeds of the convertible senior sub note offering together with approximately $29 million to be drawn under the revolver will be used to retire in full the remaining $113.8 million balance of the company's Term Loan B and to repurchase approximately $60 million of its shares. Up to $50 million of these share repurchases will be done with KKR, whose ownership percentage of Walter Industries will drop from 33.3% to approximately 25%.

The $245 million revolver is secured by a first lien on all of the company's accounts receivable, inventory, and machinery and equipment as well as by a pledge of the capital stock of the company's subsidiaries and carries the guarantees of all material domestic subsidiaries, including those of its financing subsidiaries. The convertible senior sub notes will be unsecured and will not carry any subsidiary guarantees.

Walter has instituted four price increases at U.S. Pipe in order to recapture some of its lost margin from sharply escalating scrap metal costs. Assuming that scrap metal costs stabilize, the company should show a sharp swing in operating profits just from the benefits of these price increases. (In a related vein, rising metallurgical coal prices will permit the company to move from a loss to a profit at its non-core coal operations).

The company has generated considerable free cash flow in each year since 1997, permitting it to cut debt substantially over the time period, from roughly $700 million to $113.8 million as of year-end 2003. Moody's expects free cash flow to continue being positive over the next several years, although there could be some year-to-year volatility, depending on the timing of new CMO financings at Mid-State Homes (the financing subsidiary).

Homebuilding, one of the company's core operations and its original business in 1946, had a rough year in 2003 and faces a transitional year in 2004. The subsidiary's SAP system implementation took longer than expected and temporarily increased the homebuilding cycle times, and the strategy to transition to a more traditional homebuilder proved unsatisfactory and is being unwound. To capture some incremental volume, the company began redesigning its model homes and introducing new ones, and it expanded its price points from under $75,000 per home to between $100,000 and $150,000. The benefits of these moves will not be fully realized until 2005.

Going forward, the ratings outlook will depend on the company's success in maintaining its capital structure discipline and in executing on its growth strategies in homebuilding and financing. Moody's would view positively the company's continuing reduction in debt leverage, growth in its equity base, and a successful conclusion to its non-core asset sale strategy. The ratings outlook could be negatively impacted if the company were to releverage its balance sheet significantly or to stumble significantly in implementing its growth strategy in homebuilding and financing.

Headquartered in Tampa, FL, Walter Industries, Inc. is a diversified company which operates in five reportable segments: Homebuilding, Financing, Industrial Products, Natural Resources, and Other. Revenues and pretax income from continuing operations in 2003 were $1.325 billion and $(26.8) million, respectively.

New York
Tom Marshella
Managing Director
Corporate Finance Group
Moody's Investors Service
JOURNALISTS: 212-553-0376
SUBSCRIBERS: 212-553-1653

New York
Joseph A. Snider
Vice President - Senior Analyst
Corporate Finance Group
Moody's Investors Service
JOURNALISTS: 212-553-0376
SUBSCRIBERS: 212-553-1653

No Related Data.
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