Fitch Affirms Masco at 'BBB+'; Outlook Revised to Negative.

NEW YORK -- Fitch has affirmed the issuer default rating (IDR) and senior unsecured debt rating (including revolving credit facility) of Masco Corporation (MAS) at 'BBB+'. The Rating Outlook has been revised to Negative from Stable.

The rating and outlook for Masco is based on the company's leading market position with strong brand recognition in its various business segments, the attractive characteristics of the residential home improvement market, the breadth of its product offerings, and solid free cash flow generation. Risk factors include sensitivity to general economic trends, as well as the cyclicality of the residential construction market, customer concentration, continued consolidation of the company's customer base, and volatile raw material and commodity costs.

The Outlook change from Stable to Negative reflects the weakening trend in the company's margins and credit metrics, lower expected sales this year due to an anticipated further decline in housing starts for 2007, and the expectation that the company will continue its aggressive share repurchase program.

Masco's margins and credit metrics have deteriorated over the past three years. The company's margins have been adversely affected by increasing commodity and raw material costs. While the company has implemented (and continues to implement) pricing increases for selected products, it has yet to fully recover the cost increases experienced over the past few years. Interest coverage has declined from 9 times (x) in 2004 to 7.6x in 2005 and 7.1x in 2006. FFO interest coverage also dropped to 6.3x in 2006 from 6.5x in 2005 and 7.75x in 2004. The company's leverage as measured by debt to EBITDA has steadily increased from 2.19x in 2004 to 2.50x in 2005 and 2.90x in 2006. Debt as a percentage of total capitalization was 52.7% at the end of 2006, compared to 49.5% at year-end 2005 and 44% at the conclusion of 2004.

The company has generated in excess of $2.9 billion in free cash flow and about $894 million from the divestiture of non-core assets during the 2003 to 2006 period. However, most of these funds have been used to repurchase approximately $3.6 billion in stock during this time period. Masco intends to return (on average) about $1 billion per year to shareholders in the form of dividends and share repurchases. The company exceeded this over the last four years, with dividends and share repurchases averaging about $1.2 billion each year.

At the end of 2006, MAS had a relatively strong balance sheet and adequate liquidity, with over $2 billion in cash and marketable securities and $2 billion in unused bank lines. The company's Debt to Capitalization ratio at the end of fiscal year 2006 was 52.7%, compared with 49.5% at year-end 2005. In October 2006, the company issued $1 billion of 6.125% senior notes due 2016 in anticipation of debt maturities in 2007. In January 2007, the company repurchased for cash $825 million of the accreted value of its outstanding zero coupon convertible senior notes. Had this debt repayment occurred in 2006, the company's Debt to Capitalization ratio would have been 48%. Masco recently issued $600 million of senior unsecured notes in two tranches: $300 million 5.85% senior unsecured notes due March 15, 2017 and $300 million senior unsecured floating rate notes due March 12, 2010. Proceeds from the issuance of the notes will be used to pay Masco's $300 million 4.625% senior unsecured notes due in August 2007 with the remaining funds added to the company's working capital.

Masco is among the largest manufacturers of brand name consumer products for the home and family, which include names such as Delta and Hansgrohe faucets, Kraftmaid and Merillat cabinets, Behr and Kilz paint, and Milgard windows. This extensive product offering is supplemented by the company's growing installation services operations. Management estimates that approximately 90% of its sales are from products and services that represent leadership positions in their market segments.

Through its Key Retailer and Builder Alliance programs, Masco has enhanced its sales to the home centers, mass merchandisers and homebuilders. Masco has a broad array of products, allowing the company to be a broad-based supplier to these consolidating distribution channels. Today, Masco is the largest supplier of manufactured products to Home Depot - about 5% of everything Home Depot sells (over 20 different product lines) comes from Masco. Additionally, Masco provides coast to coast installation services, installing 20 different product categories for the major and smaller homebuilders in the country. Fitch believes that the company's scale and depth of product offerings will continue to make it an important supplier to the home improvement and building products markets.

Fitch's rating takes into account the cyclicality of Masco's end markets. Management estimates that 60% of sales are to the remodeling and repair market, and the remaining 40% to new home construction. Fitch expects housing starts to decline approximately 15% in 2007. Furthermore, the growth in home improvement spending is projected to decelerate this year. After growing an estimated 8.1% in 2006, residential repair and alteration spending is projected to grow 1.5% in 2007.

Sales to Home Depot (Masco's largest customer) totaled $2.5 billion or approximately 20% of 2006 net sales (down from the 24%-25% levels realized during the 1999-2002 period). Although builders, dealers and other retailers represent other channels of distribution for Masco's products, the loss of a substantial portion of Masco's sales to Home Depot would have a significant, adverse impact on its operations. Additionally, Masco's reliance on Home Depot makes the company more susceptible to pricing pressure. The Home Depot expects sales growth for fiscal year 2007 to be flat to an increase of 2%, with same store sales estimated to decline in the mid-single digits. Masco's growing installation services business contributed $3.16 billion in 2006 sales (24.7%). This additional distribution channel and its revenue stream somewhat lessens Masco's reliance on Home Depot.

The past decade has seen consolidation in the distribution channels of the building products industry. Big box retailers such as Home Depot and Lowe's continue to gain market share in the home improvement sector. Similarly, new home sales from the top-10 U.S. homebuilders increased from approximately 10% of the total in 1993 to over 20% in 2006. As these distribution channels further consolidate into fewer and larger players, the pricing environment for Masco will continue to be challenging. Fitch believes that pricing increases may be difficult for all manufacturers in the absence of new products and/or product innovations. This may put persistent pressure on Masco's margins.

Founded in 1929, Masco Corporation manufactures, sells and installs home improvement and building products, with emphasis on brand name products and services holding leadership positions in their markets. The company is among the largest manufacturers in North America of brand name consumer products designed for home improvement and new construction markets. The company is structured in five product and service platforms: Cabinets and Related Products (25.7% of fiscal 2006 sales and 26.1% of operating income); Plumbing Products (25.8% of sales; 18.8% of operating income); Installation and Other Services (24.7% of sales; 20.2% of operating income); Decorative Architectural Products (13.9% of sales; 21.7% of operating income); and Other Specialty Products (9.9% of sales; 13.2% of operating income).

Fitch's rating definitions and the terms of use of such ratings are available on the agency's public site, www.fitchratings.com. Published ratings, criteria and methodologies are available from this site, at all times. Fitch's code of conduct, confidentiality, conflicts of interest, affiliate firewall, compliance and other relevant policies and procedures are also available from the 'Code of Conduct' section of this site. The issuer did not participate in the rating process other than through the medium of its public disclosure.