R&I Rating Methodology by Sector
October 17, 2013
Housing Equipment and
Construction Materials
A typical home is comprised of various metal, wood and ceramic construction materials, water
and air-conditioning systems and other fixtures. While new housing construction is provided by
firms such as housing manufacturers and building contractors, and maintenance repair work is
performed by remodeling firms, many of the equipment and construction materials used are
produced by equipment or construction materials manufacturers. R&I applies this rating
methodology to companies whose business base is mainly in Japan and that focus primarily on
manufacturing housing equipment and fixtures and construction materials and selling them to
housing manufacturers, building contractors and distributors that supply these products to
construction firms.
I. Evaluation of Business Risk
1. View of industry risk
New housing starts in Japan are expected to weaken in the long term. While demand will vary
depending on the product, expansion of the market overall is difficult to anticipate. The
housing-related sector encompasses not only new construction but also maintenance and housing
reform, and is intimately tied to people’s lives. Therefore a certain level of demand can probably be
sustained. Depending on the product, firms have reorganized, and the industry is moving to reduce
supply capacity. Even so, customers are in a strong position to negotiate prices, and competition
remains severe. R&I evaluates the industry to have a medium degree of industry risk.
There are differences in the demand environment and competitive settings that reflect the
items firms handle. In addition, firms may be able to control risk by handling multiple products
rather than specializing in a narrow field. R&I reflects these factors in its assessment of individual
firm risk.
(1) Market size, market growth potential and market volatility
For both new construction demand and reform demand combined, the industry enjoys a
certain degree of demand as it relates to housing, a sector that is essential for people’s daily lives.
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Because of this characteristic, demand has a strong correlation with macroeconomic indicators such
as Japan’s nominal GDP growth rate, population dynamics and the number of households.
According to a January 2013 estimate by the National Institute of Population and Social Security
Research, Japan’s total population will continue to shrink over the long term and the number of
households will also decline after reaching a peak in 2019. As such, future new housing construction
demand is expected to follow a long-term downward trend. On the other hand, because of the
increase in the housing stock, a certain amount of growth in demand for equipment repairs,
maintenance and replacement is anticipated. Although demand is influenced by changes in
consumer attitudes toward investing in housing, which are driven by the direction of the economic
climate and other factors, and market volatility is somewhat high, demand is not expected to
diverge greatly from the trend of Japan’s economy.
(2) Industry structure (competitive environment)
The competitive environment is somewhat harsh. For products exhibiting a certain degree of
technical difficulty from a production aspect in particular, the threat of new entrants is small, but
even if a company has captured a majority of the market for a product, customers enjoy a powerful
price bargaining position and it is difficult to strengthen control over prices. Moreover, some
products with a low degree of technical difficulty face entrants from different industries, and
competition has intensified even to the point where a specialized firm is beset by difficulties.
While companies compete intensely from aspects such as product development, prices and
delivery dates, there also are instances of firms working together, by sharing a part of their
processing and logistics functions, for example, in order to accomplish results greater than the cost
reduction they might achieve on their own.
(3) Customer continuity and stability
In the new housing construction sector, consumers do not purchase housing equipment and
construction materials directly, but go through housing manufacturers, building contractors,
agencies/sales outlets and other firms with which they have an ongoing relationship. In the housing
reform sector as well, much of the business passes through housing manufacturers and remodeling
firms. Since these firms seek to diversify suppliers, excessive concentration in a single equipment or
construction materials manufacturer is rare, and relationships between manufacturers and
distributors/construction firms are continuous and stable. There are few cases where market shares
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change significantly unless special factors are involved. In the housing reform market, however,
consumers compare products from the standpoint of function, price, design and other considerations,
and thereby participate extensively in making a purchase decision. Therefore the continuous
business seen in the new housing construction sector is not observed in this sector.
(4) Capital and inventory investment cycles
For a manufacturing industry, the capital investment burden is not significant, although it
depends on the products handled. Firms must invest continuously in order to roll out new products,
but this does not require they invest in manufacturing equipment. Cases where the investment
burden grows heavier are limited to instances where, for example, a company adopts a strategy to
raise its production capacity through overseas expansion.
Firms do have to maintain a certain level of investment in inventory, but the burden is not
especially heavy. The reason is that production lead times are not particularly long with products
diversified in small-lot runs.
(5) Protection, regulations and public aspects
There is no institutional protection or regulation that may affect creditworthiness.
Regulations for earthquake- and fire-proof performance could serve as some barrier to entry. R&I
does not consider this factor to have a major impact on creditworthiness assessment, however,
because competition in the domestic market mainly occurs among existing manufacturers.
(6) Cost structure
Cost structures overall are not very flexible, although each company’s specific circumstances
depend on the products it handles. In contrast to materials manufacturers, large-scale equipment is
not required, and the proportion of products provided by subcontractors is also large. Nevertheless,
manufacturing processes that are a source of competitiveness often are kept within a company
group, and changes in the capacity utilization ratio resulting from fluctuations in demand have a
comparatively large impact on earnings. Moreover, selling and administrative expenses are
considerable, even though they include expenses that can be managed.
Costs are also highly sensitive to materials price trends. During phases when materials costs
are rising, firms cannot escape the effect on their purchasing side. Passing rising costs on to sales
prices is difficult, although there are differences that reflect products’ competitive environments.
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2. View of individual firm risk
In contrast to industry risk, which highlights the standard risks of the industry of which the
subject firms are a part, the business risk of each company will differ depending on the individual
firm risk as explained below.
(1) Core product market size and market share
For housing equipment and construction materials as a whole, there is a certain degree of
demand, but the level of demand varies according to the product. R&I first must verify whether the
markets for products a company handles exhibit a size sufficient to establish a strong revenue base.
Next it must confirm changes in a company’s share of each product. The reason is that market
share can be considered the result of competitiveness from various aspects such as product
development, production, sales and brand.
(2) Market diversification
Domestic new housing construction demand is expected to decline over the long term, and
companies may see their income taper off if earnings depend strongly on this sector. Because of such
concerns, they continue to seek out ways to create an earnings base in the domestic housing
remodeling market and in overseas markets. R&I evaluates whether a firm has established an
earnings base sufficient to enable it to continuously maintain profits and cash flow in these sectors.
(3) Product variety
Specialized manufacturers that handle products with a low level of technical difficulty or
products that do not demand a substantial amount of capital investment often find themselves
entangled in price competition and their total profits and cash flow under enormous pressure when
the market environment for their products deteriorates. This risk is mitigated by offering a range of
competitive products. Moreover, because housing equipment maintenance and repair demand
occurs continuously, supplying multiple products helps strengthen a company’s business
development capabilities.
(4) Technical and product development capabilities
The timely introduction of products that users will find attractive is essential for maintaining
competitiveness. While it varies according to the product handled, if a product loses its dominance,
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this can also reduce its shelf space at the housing manufacturers, building contractors,
agencies/sales outlets, remodeling firms and other businesses that act as sales channels. R&I
evaluates the extent to which a company has the technical and product development capabilities
that enable it to bring to the market new products that can differentiate the company from its
competitors.
II. Evaluation of Financial Risk
In addition to quantitative factors in the form of financial data, R&I also evaluates qualitative
factors, such as a company’s financial management policy and liquidity risk, in its analysis of
financial risk. For the housing equipment and construction materials industry, R&I emphasizes the
following financial indicators based on the industry’s business characteristics.
(1) Earning capacity
Operating income margin, EBITDA (earnings before interest, taxes, depreciation and amortization)
margin
R&I focuses on operating income margin as a ratio highlighting a firm’s overall
competitiveness, and as a measure showing the extent of the buffer until a firm begins to incur
losses during periods when demand slips. Because the margin must be considered in conjunction
with factors such as how much room is left for lowering fixed costs, R&I does not make judgments
simply by the recent margin.
(2) Scale and investment capacity
EBITDA, equity capital
Although the investment burden is not especially large, a certain amount of investment is
indispensable for maintaining and strengthening competitiveness. Moreover, new investment is
required if a firm has adopted a management policy emphasizing growth. For EBITDA, R&I focuses
not only on the margin but also on the amount as an indicator showing a firm’s investment burden
capacity. As an additional measure underlining a firm’s capacity to invest, R&I also evaluates the
amount of equity capital. The reason is that even if its investment balloons during a business
expansion phase, a firm will be able to minimize the effects on the debt-equity structure if it
possesses ample equity capital.
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website or any other information included in this website belong to Rating and Investment Information, Inc. (“R&I”). None of the information, etc. may be used, in whole or in
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(3) Debt redemption period
Ratio of net debt to EBITDA
Ratio of (net debt – working capital)/FFO (Cash flow from operating activities after deducting the net
change in working capital)
Even if a company shifts to new products, large-scale equipment upgrades are not required,
and manufacturing facilities have comparatively long useful lives. Provided it has laid a solid
earnings base, and strengthened its equity capital in the past, a company can be expected to cover
its long-term funds from equity capital and keep net debt within the range of working capital. R&I
recognizes that for a company to have strong creditworthiness, its net debt after deduction of
working capital must be negative, or it must have the ability to generate cash flow that will enable
its net debt after deduction of working capital to be negative as soon as possible even if net debt
expands temporarily for upfront investment. To examine the absolute net debt burden, R&I also
looks carefully at the balance between net debt and cash flow at the stage before working capital is
deducted.
(4) Financial profile
Equity ratio, net D/E ratio (ratio of net debt to equity capital)
To verify whether a company has excessive financial leverage, R&I emphasizes the equity
ratio and net D/E ratio. While it also depends on the condition of each company’s equipment, R&I
evaluates equity capital as a buffer against a loss of asset value in situations such as when a change
in the structure of demand makes recovery of an investment difficult to anticipate. Because these
indicators may change when working capital increases or decreases as the result of a change in
sales, R&I also confirms the factors that have produced the change in addition to the level of the
indicators.
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website or any other information included in this website belong to Rating and Investment Information, Inc. (“R&I”). None of the information, etc. may be used, in whole or in
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III. Rating for Housing Equipment and Construction Materials Industry
Issuer Rating
Individual Firm Risk
Core product market size and market share
Market diversification
Product variety
Technical and product development capabilities
Financial Risk
Indicator
Importance
◎
◎
○
○
Earning capacity
Operating income margin
Scale and investment
EBITDA
capacity
Equity capital
EBITDA margin
Debt redemption period Ratio of net debt to EBITDA
(Net debt – working capital)/FFO
Financial profile
Equity ratio
Net D/E ratio
Importance
◎
△
◎
◎
◎
◎
◎
○
Industry Risk: Medium
Note) Importance is indicated by ◎: extremely important, ○: important, or △ relatively important.
* This report replaces all previous versions that have been released to date.
The Rating Determination Policy and the Rating Methodologies R&I uses in connection with evaluation of creditworthiness (collectively, the
"Rating Determination Policy and Methodologies") are R&I's opinions prepared based on R&I's own analysis and research, and R&I makes no
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irrespective of negligence or fault of R&I. All rights and interests (including patent rights, copyrights, other intellectual property rights, and
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prohibited without R&I's prior written permission.
Japanese is the official language of this material and if there are any inconsistencies or discrepancies between the information written in
Japanese and the information written in languages other than Japanese the information written in Japanese will take precedence.
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Unless specifically provided otherwise, all rights and interests (including copyrights, other intellectual property rights, and know-how) regarding this site, the content of this
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