Construction Informer

Mexico has been dealing with its own set of housing industry problems and it looks like that may continue for the rest of 2012, according to Fitch Ratings which expects  continued deterioration in credit fundamentals for the largest Mexican homebuilders this year.

On the positive side, Fitch views the progress of two industry leaders tapping the bond market during January as positive steps toward liquidity conservation in a period of heavy refinancing requirements.

Recent issuance by URBI and a proposed U.S. bond deal by HOMEX this month will help address upcoming commitments in a year when Fitch expects both homebuilders to report substantially negative free cash flow (FCF). Revenue growth rates for the largest Mexican builders will likely fall in the range of 8% to 12% this year, pushing up working capital requirements

2012 Cash Flow Issues

Because of adverse capital market conditions last year, these firms were forced to rely heavily on short-term borrowing, with the major builders’ strategies emphasizing growth at the expense of liquidity. Cash needs continue to grow as a result of investments in land reserves, acquisitions of distressed housing projects in progress, and increasing working capital driven by organic growth. Coming into 2012, Fitch said it expects the four largest Mexican homebuilders to face continuing cash flow pressure.

The new offerings demonstrate the openness of debt capital markets to Mexican builders, even at a time when negative FCF is likely to increase pressure on cash balances and drive industry leverage higher. Still, companies have been forced to pay up for market access, as seen in the 9.75% interest rate for URBI’s USD500 million 10-year notes.

US Bond Market Connection

Heavy reliance on international borrowing in the U.S. bond market exposes the sector to continuing currency risk, with a mismatch between peso-denominated cash flows and dollar-denominated debt service. In a peso depreciation scenario, all of the major Mexican homebuilders would face a rising interest cost burden related to dollar-denominated debt.

The impact of exchange rate volatility on the credit profiles of homebuilders will vary depending on financial strategy and hedging policies. Some builders are pursuing more conservative policies by hedging all interest and principal payments during the life of their bonds, while others only partially cover their interest and principal payments through hedge instruments.

The peso has shown signs of strength in recent weeks, appreciating against the dollar to around MXN13 from MXN14 in late 2011. Still, the currency would likely come under increasing pressure should global macroeconomic stress increase, potentially tied to an intensification of the euro crisis later in the year.

Low Income Housing Demand Stays Steady

Despite weakness at the high end of the Mexican housing market, demand for low-income housing has remained stable, largely as a result of ongoing support from the federal government for the mortgage market. Fitch thinks this support will continue after the June presidential elections, regardless of which of the three major political parties wins.

For additional detail on the outlook for Mexican homebuilders in 2012, see “2012 Outlook: Mexican Homebuilders,” dated Jan. 11, 2012, on the Fitch Web site at www.fitchratings.com.  Most of the above article originally appeared as a post on the Fitch Wire credit market commentary page. The original article can be accessed at www.fitchratings.com.  All opinions expressed are those of Fitch Ratings.