May 31, 2019

Meritor Merits Investment Grade


Summary

  • Moody’s B1 credit rating on Meritor materially overstates the company’s credit risk. Valens rates the company five notches higher, at investment grade.
  • Meritor’s credit risk should be lower, given their strong combined cash flows and cash on hand that cover all their operating and debt obligations in the next several years.
  • Credit risk is also grossly overstated by cash bond markets and overstated by CDS markets.

Cash Flow Profile

Moody’s is materially overstating the credit risk of Meritor, Inc. (NYSE:MTOR) with its B1 rating. However, Valens’ fundamental analysis highlights a much safer credit profile for MTOR. The company’s cash flows cover all their obligations through the next seven years, except for their 2021 debt headwall that their cash build can easily cover. Valens therefore rates MTOR five notches higher at an IG4 credit rating or a Baa2 using Moody’s ratings scale. (To register for free access to our corporate credit ratings, please click here.)

In addition, cash bond markets are grossly overstating MTOR’s credit risk, with a cash bond YTW of 9.789% relative to an Intrinsic YTW of only 6.679%. CDS markets are likewise overstating credit risk, with a CDS of 648bps versus an Intrinsic CDS of 519bps.

Valens Credit produces a Credit Cash Flow Prime™ chart for Meritor, Inc., as it does for every company it evaluates. The chart provides a far more comprehensive view of credit fundamentals than traditional ratio-based analyses. It shows the cash flow generation and cash obligations related to the credit of the firm, adjusted for non-cash financial statement reporting distortions from GAAP. The blue line indicates the gross cash earnings (Valens’ scrubbed cash flow number) expected to be generated based on consensus analyst estimates and Valens Credit’s own in-house research team. The blue dots above that line include the cash available at that time while the blue triangles indicate that same amount plus any existing, available lines of credit.

The colored, stacked bars show the cash obligations of the firm in each year forecast. The most difficult obligations to avoid are at the bottom of each stack, such as interest expense. The obligations with more flexibility to defer year to year, such as pension contributions and maintenance capital expenditures, are at the top of the stacked bars. All of the calculations are adjusted for non-cash distortions that are inherent in GAAP accounting, including the highly problematic and often misused statement of cash flows.


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