Daniel Fisher and Jack Gage, 03.18.09, 10:59 AM EDT
The big ratings houses were late in cutting GE's rating, but there are plenty more.It was hardly shocking when Standard & Poor's cut the credit rating on General Electric debt by one notch to AA+ on March 13. The only shock was that the cut wasn't deeper and didn't come sooner.
GE's financial problems were obvious back in October, when the conglomerate agreed to pay the once-unthinkable interest rate of 10% to get its hands on $3 billion from billionaire Warren Buffett's Berkshire Hathaway
Even after the rating cut, investors seem to think GE is due for more. Spreads on credit-default swaps pegged to GE debt are at 683 basis points, according to Markit, more than triple the level a year ago and implying a "speculative" rating two notches below investment grade.
And GE is hardly the only company that seems to be benefiting from ratings-house grade inflation. Even mighty Berkshire Hathaway has a CDS-implied rating below investment grade, according to Moody's Investors Service. Independent ratings firm Egan-Jones Ratings Co. has identified other well-known names including Advanced Micro Devices
"We're not saying GE is a garbage credit, but they're certainly not a double-A," said Sean Egan, the firm's chairman, who rates GE 'BBB+' with a possible future downgrade to BBB, or two notches above speculative grade.
Egan, who competes directly against the big ratings houses, blames a system in which companies pay ratings firms for their grades. That gives the ratings houses an incentive to be nice to their customers, he says, since higher ratings mean lower borrowing costs. (Egan-Jones charges subscribers for its ratings, a system that exposes it to criticism that its hedge-fund clients have an incentive to drive ratings down and bond rates up.)
The mainstream ratings firms also have seemed reluctant to cut even in the face of obvious financial stress, perhaps because they don't want to be held responsible for the results. Enron kept its investment-grade rating until four days before it filed for bankruptcy, for example. GE has provisions in some of its financial agreements that would require GE to buy its way out of billions of dollars in swap agreements if its credit rating falls below AA-, five notches below its current rating.
Other companies that seem to be defying the credit markets or their own fundamentals include JetBlue, which gets a B- rating from S&P despite a debt/equity ratio of 250, compared with 162 for its peers. Egan-Jones rates JetBlue's $3.1 billion in debt a C, or close to default.
Macy's, the department store chain, also sports a BBB- rating despite the economic downturn that is hitting retailers particularly hard. With $8.7 billion in long-term debt and $9.1 billion in goodwill that is likely to be written down, the ratio of debt to assets and equity at Macy's will probably increase dramatically.
Another heavily indebted company with deteriorating financials is AMD, which has $4.7 billion in long-term debt and has had to borrow to meet its interest payments for two years running. S&P rates AMD a B, while Egan-Jones is seven notches lower at C.
Spokesmen for Moody's and Standard & Poor's rejected the idea their companies had a conflict of interest with their rated customers, and said their rating standards are publicly available online. They also said their ratings are intended to reflect a company's credit over the next 18 to 24 months and are not adjusted to account for short-term swings in market prices of their debt.
And they shouldn't bear all the blame for market disruptions their belated cuts may cause. The Securities and Exchange Commission last year proposed eliminating references to debt ratings in regulations that govern the conduct of investment advisors, including the folks who run money-market funds. Both Moody's and S&P supported the changes, which would make money managers legally more responsible for the quality of their decisions.
Who was opposed? Money managers, including Vanguard, ING
There was one prominent money manager who argued that eliminating credit ratings from the regulations would be good. "Most experienced and well-researched funds will continue to rely on their own credit evaluations," said Bruce Bent, former chairman of the Reserve.
He penned the letter on Sept. 5. Less than two weeks later his Reserve Primary fund was the first in 14 years to "break the buck" as it was forced to write down $785 million in poorly timed investments in Lehman Brothers
|Company||S&P Rating||Egan-Jones Rating||Debt/Equity Ratio||Interest Coverage|
|Advanced Micro Devices||B||C||6083||-3|
Berkshire Hathaway Annual Letter to Shareholders 2008 - Read the latest Berkshire Letter
Daily Forex Updates - Daily Forex data, commentary & tools to help make trading Forex easy
Share Investor Blog - Stockmarket & Business commentary
Share Investor New Zealand Business News- Get more business news
Shareinvestorforum.com - Discuss this topic further
Recommended Amazon Reading
The Warren Buffett Portfolio: Mastering the Power of the Focus Investment Strategy by Robert G. Hagstrom
Buy new: $13.57 / Used from: $5.97
Usually ships in 24 hours
Kindle 2: Amazon's New Wireless Reading Device (Latest Generation)