Fitch Revises KB Home's Outlook to Stable; Affirms IDR at 'BB+'

Business Wire, Sept 13, 2006

NEW YORK -- Fitch Ratings has affirmed and revised the Rating Outlook to Stable from Positive the following ratings for KB Home (NYSE:KBH):

-- Issuer Default Rating (IDR) 'BB ';

-- Senior unsecured debt and revolving credit facility 'BB ';

-- Senior subordinated debt 'BB-'.

A Positive Outlook was predicated on the assumption that credit metrics would further improve and then be generally maintained for a reasonable period of time. Prospects of that occurring over the next few quarters or even next twelve months now appear unlikely due to a broadly deteriorating housing market.

Fitch anticipates that KB Home will take a more cautious stance on share repurchase and, especially, land purchases during the balance of the year (and in 2007) and that inventories which have been growing into mid-2006 will sharply decline by fiscal year-end 2006. Fitch anticipates that leverage will decrease later this year and liquidity improve as cash flow comparisons in the second half of 2006 should be much stronger than in the first half of the year.

Fitch will also continue to closely monitor the trends of the broad housing market in its assessment of the appropriate credit ratings for all homebuilders.

The current ratings reflect KB Home's solid, consistent profit performance in recent years and the expectation that the company's credit profile will be maintained or continue to improve as it executes its business model. The ratings also take into account KB Home's primary focus on entry-level and first-step trade-up housing (the deepest segments of the market), its conservative building practices, and effective utilization of return on invested capital criteria as a key element of its operating model. In recent years, KB Home has improved its capital structure and increased its geographic diversity, along with better positioning itself to withstand a meaningful housing downturn. Fitch also has taken note of KB Home's role as an active consolidator within the industry. Risk factors also include the cyclical nature of the homebuilding industry and KB Home's exposure to the state of California. Fitch expects future leverage (excluding financial services) to be comfortably within KB Home's stated debt to capital target range of 45-55%.

KB Home has expanded EBITDA margins over the past several years on steady price increases, volume improvements and reductions in SG&A expenses. Also, KB Home has produced record levels of home closings, orders and backlog as the housing cycle extended its upward momentum. KB Home realizes a significant portion of its revenue from California, a region that has proved volatile in past cycles. But the company has reduced this exposure as it has implemented its growth strategy and in the first half of 2006 sourced 17.9% of its deliveries from California, compared with 69% in fiscal 1995. Over recent years KB Home shifted toward a presale strategy, producing a higher backlog/delivery ratio and reducing the risk of excess inventory and debt accumulation in the event of a slowdown in new orders. The strategy has also served to enhance margins. KB Home maintains a 4.9 year supply of lots (based on last twelve months deliveries), 46.3% of which are owned and the balance controlled through options. Inventory turnover has been consistently at or above 1.2 times (x) during the past eleven years.

Balance sheet liquidity has improved as a result of efforts to reduce long-dated inventories, quicken inventory turns and improve returns on capital. Progress in these areas allowed the company to accelerate deliveries without excessively burdening the balance sheet.

As the housing cycle progresses, creditors should benefit from KB Home's solid financial flexibility supported by cash and equivalents of $9.7 million and $646.6 million available under its $1.5 billion domestic unsecured credit facility (net of $437.1 million of letters of credit) as of May 31, 2006. In addition, liquid, primarily pre-sold work-in-process and finished inventory totaling $5.03 billion provides comfortable coverage for construction debt. Debt is well laddered with the first of the company's fixed rate debt maturing in 2009. The current $1.5 billion revolving credit facility matures in November 2010.

Management's share repurchase strategy has been aggressive at times, but so far has not impaired KB Home's financial flexibility. KB Home repurchased $169.2 million of stock in 2000, $190.8 million in 2002, $108.3 million in fiscal 2003 and $66.1 million in fiscal 2004 and $134.7 million in fiscal 2005. 2.02 million shares were repurchased in the first half of 2006 at an aggregate cost of $299.9 million. As of May 31, 2006, six million shares remained under the board of directors' repurchase authorization. Taking into account these repurchases, book equity has increased $2,317.7 million since the end of 1999, while construction debt grew $2,577.7 million. The company has a moderate dividend. In December of 2005, KB Home's board approved a 33% increase in the annual cash dividend from $0.75 to $1.00 per share. This represents a payout of 11.8%-12.5% based on management's current earnings guidance for fiscal 2006.