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Rating Action:

Moody's changes ARA's outlook to negative; affirms Ba2/A2.mx ratings

 The document has been translated in other languages

13 May 2020

Mexico, May 13, 2020 -- Moody's de México, ("Moody's") has today affirmed the Ba2 global scale and the A2.mx national scale issuer ratings of Consorcio ARA, S.A.B. de C.V. (ARA). The outlook was changed to negative from stable. The action follows our expectation of weaker than anticipated operating performance and challenging business prospects through at least 2021.

RATINGS RATIONALE

The rapid and widening spread of the coronavirus outbreak, deteriorating global economic outlook, falling oil prices, and asset price declines are creating a severe and extensive credit shock across many sectors, regions and markets. The combined credit effects of these developments are unprecedented. Business conditions and revenue-growth potential are deteriorating rapidly for homebuilding companies globally. The spread of the coronavirus and the associated quarantines, social distancing measures, travel restrictions and logistics disruptions have led to suspensions and delays in construction activity. Today's action reflects the potential impact on ARA of the shock. We regard the coronavirus outbreak as a social risk under our ESG framework, given the substantial implications for public health and safety.

The change in ARA's outlook to negative reflects its exposure to Mexico's economy, where the disruption in supply chains, the sharp decline in demand from the US, and the domestic impact of quarantine measures will result in a profound economic recession. The global coronavirus pandemic will weigh heavily on Mexico's homebuilding sector amid government mild efforts to prop the economy up during a deepening recession. Efforts to contain the coronavirus outbreak will likely have a temporary calming effect on the Mexican homebuilding sector, but as domestic business activity declines, employment will suffer, dragging down housing demand.

We now expect that Mexico's real GDP will contract by 7% in 2020 and to recover only slightly to 2.2% growth in 2021. An extended recession indicates trouble for housing demand in Mexico, which typically depends on the availability of mortgage loans, as well as formal employment. Two federal institutions offer mortgages to formally employed people: Infonavit, Mexico's largest mortgage originator, serves private-sector employees, and Fovissste offers mortgages to public-sector workers. But in mid-April 2020, Mexico's labor ministry acknowledged the loss of close to 350,000 jobs since mid-March because of the economic impact of the new coronavirus and distancing measures imposed to fight its spread. According to the ministry, the biggest losses occurred in the tourist-oriented state of Quintana Roo, which lost nearly 64,000 jobs. The ministry also said that the largest share of job losses, nearly 250,000 nationwide, happened during 13 March to 30 March. As the pandemic evolves, Mexico risks further declines in employment, and with it, demand for both private mortgages and housing.

In 2019, 66% of ARA's units were sold through an Infonavit loan, 20% under a Fovissste loan and 14% through a private bank mortgage loan. Private-bank mortgage origination will dwindle during the period that containment measures remain in effect. Cautious loan origination policies and well diversified portfolios mitigate these risks, but our negative outlook for the Mexican banking system reflects the likely deterioration in asset quality, in line with our much weaker economic expectations for Mexico. Before the coronavirus outbreak, we were expecting private mortgage lending to remain strong, with Mexican banks staying focused on lower-risk lending to help control asset risk as the national economic outlook deteriorated. Now we foresee more sluggish demand based on weakening consumer confidence.

ARA's Ba2 / A2.mx ratings continue to reflect its leading market position in the Mexican homebuilding sector, as well as its conservative growth strategy and prudent financial policies. Moreover, we consider that the company's strategy of having a diverse product portfolio provides flexibility to its operations. ARA's strong credit metrics and liquidity also support the ratings. These positives are offset by its relative small size, its business concentration in Mexico and the challenges inherent to the business such as the need to invest capital in land, licenses, permits and infrastructure, which can be a costly and lengthy process.

ARA's flexible portfolio and track record of prudent financial policies also continue to support its ratings during the downturn. ARA operates under a balanced product portfolio that allows it to serve customers with different income profiles. In the last twelve months (LTM) ended in March 2020, around 39% of total revenue was related to affordable entry level housing, 32% to middle-income homes and the balance mainly coming from the residential segment. Product diversification has provided ARA with the flexibility to adapt to a changing operating environment by reducing the volatility and cyclicality inherent to the homebuilding industry. Since the end of 2013, when adjusted debt/EBITDA reached close to 3.0 times, the company has consistently reduced leverage, which reached 2.5x for the 12 months ended March 2020. Likewise, interest coverage (measured by us as homebuilding EBIT to interest expense plus capitalized interest including standard adjustments) at 3.6x for the same period is adequate for the rating category. We expect adjusted debt/EBITDA to raise above 4.0x through 2021 and interest coverage to decline below 2.0x over the same period.

ARA has good liquidity. ARA's cash on hand of around MXN 2.7 billion as of March 30, 2020, is enough to cover its short-term debt by 2.8x and fully covers ARA's total debt. The company does not have committed credit facilities and instead funds its working capital requirements with advised lines of credit. However, over 2014-18, ARA generated strong free cash flow (defined as cash from operations minus dividends minus capital expenditures), which averaged MXN 595 million per year. For the 12 months ended March 30, 2020 cash flow generation decreased, driven by an increase in working capital and higher dividend payout, impacting ARA's free cash flow to a MXN 65 million shortfall. However, after a significant inventory build-up in the last couple of years and with landbank equivalent to ten years of development, we consider ARA has ample room to scale back cash outlays during this period. Moreover, we expect the company will prioritize cash preservation over cash distributions during the pandemic, consistent with its track record of prudent liquidity management amid crisis. But the extent of their cash burn and how much it affects their liquidity still depends on the severity and duration of the outbreak in Mexico.

FACTORS THAT COULD LEAD TO AN UPGRADE OR DOWNGRADE OF THE RATINGS

The ratings are unlikely to be upgraded in the short term. The outlook could stabilize once the coronavirus outbreak is brought under control and homebuilding activity is fully restored in Mexico and lockdowns are over. At this point Moody's would evaluate ARA's credit metrics and liquidity strength, and positive rating pressure would require evidence that the company is capable of substantially recovering its financial metrics and restoring liquidity headroom within a 1-2 year time horizon.

Ratings could be downgraded as a result of the virus pandemic and economic downturn, a significant cash burn that threatens ARA's ability to cover corporate expenses such as interests, taxes and working capital with internal sources.

Consorcio ARA, S.A.B. de C.V. (ARA) is the largest public homebuilder in Mexico. The company operates in 16 states through 42 developments in the country. ARA is majority owned (48.6%) and controlled by the Ahumada family and the rest of the stock is publicly traded on the Mexican stock exchange. The company reported revenues of MXN 7,413 million for the 12 months ended March 31, 2020.

The principal methodology used in these ratings was Homebuilding And Property Development Industry published in January 2018 and available at https://www.moodys.com/researchdocumentcontentpage.aspx?docid=PBC_1108031. Alternatively, please see the Rating Methodologies page on www.moodys.com.mx for a copy of this methodology.

The period of time covered in the financial information used to determine Consorcio ARA, S.A.B. de C.V.'s rating is between 01/01/2015 and 31/03/2020 (source: Consorcio ARA and Mexican Stock Exchange BMV).

Moody's National Scale Credit Ratings (NSRs) are intended as relative measures of creditworthiness among debt issues and issuers within a country, enabling market participants to better differentiate relative risks. NSRs differ from Moody's global scale credit ratings in that they are not globally comparable with the full universe of Moody's rated entities, but only with NSRs for other rated debt issues and issuers within the same country. NSRs are designated by a ".nn" country modifier signifying the relevant country, as in ".za" for South Africa. For further information on Moody's approach to national scale credit ratings, please refer to Moody's Credit rating Methodology published in May 2016 entitled "Mapping National Scale Ratings from Global Scale Ratings". While NSRs have no inherent absolute meaning in terms of default risk or expected loss, a historical probability of default consistent with a given NSR can be inferred from the GSR to which it maps back at that particular point in time. For information on the historical default rates associated with different global scale rating categories over different investment horizons, please see https://www.moodys.com/researchdocumentcontentpage.aspx?docid=PBC_1216309.

REGULATORY DISCLOSURES

For further specification of Moody's key rating assumptions and sensitivity analysis, see the sections Methodology Assumptions and Sensitivity to Assumptions in the disclosure form. Moody's Rating Symbols and Definitions can be found at: https://www.moodys.com/researchdocumentcontentpage.aspx?docid=PBC_79004.

Information sources used to prepare the rating are the following: parties involved in the ratings, public information, and confidential and proprietary Moody's information.

The ratings have been disclosed to the rated entity prior to public dissemination.

A general listing of the sources of information used in the rating process, and the structure and voting process for the rating committees responsible for the assignment and monitoring of ratings can be found in the Disclosure tab in www.moodys.com.mx.

The date of the last Credit Rating Action was 19/12/2018.

For ratings issued on a program, series, category/class of debt or security this announcement provides certain regulatory disclosures in relation to each rating of a subsequently issued bond or note of the same series, category/class of debt, security or pursuant to a program for which the ratings are derived exclusively from existing ratings in accordance with Moody's rating practices. For ratings issued on a support provider, this announcement provides certain regulatory disclosures in relation to the credit rating action on the support provider and in relation to each particular credit rating action for securities that derive their credit ratings from the support provider's credit rating. For further information please see the ratings tab on the issuer/entity page for the respective issuer on www.moodys.com.mx.

For any affected securities or rated entities receiving direct credit support from the primary entity(ies) of this credit rating action, and whose ratings may change as a result of this credit rating action, the associated regulatory disclosures will be those of the guarantor entity. Exceptions to this approach exist for the following disclosures, if applicable to jurisdiction: Ancillary Services, Disclosure to rated entity, Disclosure from rated entity.

This credit rating is subject to upgrade or downgrade based on future changes in the financial condition of the Issuer/Security, and said modifications will be made without Moody's de México S.A. de C.V accepting any liability as a result.

Regulatory disclosures contained in this press release apply to the credit rating and, if applicable, the related rating outlook or rating review.

Moody's general principles for assessing environmental, social and governance (ESG) risks in our credit analysis can be found at https://www.moodys.com/researchdocumentcontentpage.aspx?docid=PBC_1133569.

At least one ESG consideration was material to the credit rating action(s) announced and described above.

Moody's considers the quality of information available on the rated entity, obligation or credit satisfactory for the purposes of issuing a rating.

Moody's adopts all necessary measures so that the information it uses in assigning a rating is of sufficient quality and from sources Moody's considers to be reliable including, when appropriate, independent third-party sources. However, Moody's is not an auditor and cannot in every instance independently verify or validate information received in the rating process.

Please see Moody's Rating Symbols and Definitions on www.moodys.com.mx for further information on the meaning of each rating category and the definition of default and recovery.

Please see ratings tab on the issuer/entity page on www.moodys.com.mx for the last rating action and the rating history. The date on which some ratings were first released goes back to a time before Moody's ratings were fully digitized and accurate data may not be available. Consequently, Moody's provides a date that it believes is the most reliable and accurate based on the information that is available to it. Please see our website www.moodys.com.mx for further information.

Please see www.moodys.com.mx for any updates on changes to the lead rating analyst and to the Moody's legal entity that has issued the rating.

The ratings issued by Moody's de Mexico are opinions regarding the credit quality of securities and/or their issuers and not a recommendation to invest in any such security and/or issuer.

Please see the ratings tab on the issuer/entity page on www.moodys.com.mx for additional regulatory disclosures for each credit rating.

Sandra Beltran
Vice President - Senior Analyst
Corporate Finance Group
Moody's de Mexico S.A. de C.V
Ave. Paseo de las Palmas
No. 405 - 502
Col. Lomas de Chapultepec
Mexico, DF 11000
Mexico
JOURNALISTS: 1 888 779 5833
Client Service: 1 212 553 1653

Marianna Waltz, CFA
MD - Corporate Finance
Corporate Finance Group
JOURNALISTS: 0 800 891 2518
Client Service: 1 212 553 1653

Releasing Office:
Moody's de Mexico S.A. de C.V
Ave. Paseo de las Palmas
No. 405 - 502
Col. Lomas de Chapultepec
Mexico, DF 11000
Mexico
JOURNALISTS: 1 888 779 5833
Client Service: 1 212 553 1653

No Related Data.
© 2021 Moody’s Corporation, Moody’s Investors Service, Inc., Moody’s Analytics, Inc. and/or their licensors and affiliates (collectively, “MOODY’S”). All rights reserved.

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