CCC,
I suspect you are guilty of seeing what you wanted to see. Let's look at the supposed down-grade in detail. [Bold type face added for emphasis].
From the Moody's report:
Moody's Investors Service confirmed the debt ratings of Tyco International Ltd. (``Tyco') and changed Tyco's ratings outlook to negative, following the company's announcement that it has authorized a twenty million share repurchase program and that the funding of new acquisitions will likely be debt-financed or come from cash flow.
What they did here was change the outlook for the bond rating. But in fact the rating of the bonds was not changed:
Ratings confirmed: Tyco International Ltd.---(P)Baa1 for senior debt securities and (P)Baa2 for subordinated debt securities, and (P)``baa2' for preferred stock issued under its 415 shelf registration.
In other words, the ratings were confirmed, not downgraded. What the report says is that if additional debt is sought to fund future acquisitions the bond ratings could go lower.
Look carefully at this paragraph:
The rating agency added that the company's reluctance to use stock at current levels as currency for future acquisitions, its implementation of a share repurchase program, and its willingness to increase absolute levels of debt represent a shift in Tyco's financial philosophy, that from Moody's perspective could have negative rating implications.
And their reasoning is succinctly summed up here:
At the same time, future acquisition activity will probably be financed from cash flow or will be debt-financed, resulting in persistent high leverage and relatively weak coverages for debtholders.
And note these final paragraphs:
The rating agency noted that the cessation of equity-financed transactions, due to Tyco's current stock price, puts additional demands on future cash flow and could result in higher leverage.
Moody's views the company's change in financial philosophy sufficient to warrant changing the outlook to negative from stable.
At the same time, the rating agency recognizes that the near-term operational fundamentals will produce free cash flow of over $3 billion, that could be augmented by net proceeds from asset sales.
Prudent deployment of this strong cash flow among acquisition activity, debt reduction, and share repurchase would be viewed favorably.
What should be clear to you is that this report deals entirely with the bonds, and the bottom line is this: as leverage increases (as a result of using cash and debt instruments rather than stock to fund acquisitions) the safety of the bonds decreases.
To be fair, there are two negative implications from the perspective of shareholders. The first is that with increasing leverage there is an increasing probability of bankruptcy (very unlikely IMO). The second (more likely) is that decreasing future bond ratings increases the weighted average cost of capital.
TTFN,
CTC |
