Fed May Be Encouraging Borrowing, Rating Agencies Aren't
By CHRISTINE RICHARD
Of DOW JONES NEWSWIRES
NEW YORK -- By cutting its key interest rate to 1.75% from 6.50% over the last year, the Federal Reserve has cleared the way for companies will step up borrowing and revive capital spending.
But the rating agencies seem to have another message for companies: Cut the debt or face a credit rating downgrade.
That has sent companies rushing to the drawing board to devise so-called balance sheet enhancement strategies. These may save their credit ratings but they won't do much to spur corporate debt issuance, spending, or the economy.
"Corporate America is under a great deal of pressure to enhance its financial flexibility," said John Lonski, chief economist at Moody's Investors Service. "That means borrowing restraint or outright retiring of indebtedness."
Dominic Konstam, managing director of interest rate research at Credit Suisse First Boston, agrees that the financial markets are forcing companies to change their ways.
"The corporate bond market is basically saying that only the best companies can issue on very favorable terms and some can't issue at all unless they clean themselves up," he said.
Take Mirant Corp. (MIR), which announced plans to reduce capital spending by $1.5 billion, sell assets worth $700 million and sell 40 million shares of common stock within two days of being downgraded by Moody's in December. The company said it was committed to maintaining its investment grade rating and that it would use the proceeds to reduce borrowing.
Other companies announcing plans to scale back debt by selling assets or cutting capital spending include Calpine Corp. (CPN), Williams Cos. (WMB ), and Qwest Communications International (Q).
Tyco International (TYC) announced perhaps the most ambitious balance sheet enhancement plan to date when it said in January it would buy back some $11 billion in outstanding public debt. The company said it hopes to obtain solid single-A credit ratings across its businesses.
"The best way to show financial strength is to have enough cash on hand to finance the retirement of debt," said Lonski. "That's making a statement, proving to investors that you're in a stronger financial positions that others might argue."
Enron Fallout
The pressure on companies to improve balance sheet liquidity has been ratcheted up in the wake of Enron Corp.'s (ENRNQ) demise as investors have become less willing to extend money to companies with complex balance sheets and heavy debt loads.
That pressure may come to bear on the economy as well.
"Capital spending generally is supported by internal cash flows or issuing debt," said Sung Won Sohn, chief economist at Walls Fargo. "If companies aren't issuing debt and are using cash to buy back outstanding debt, capital spending will be a casualty."
That said, it's possible more companies will bite the bullet and issue stock in order to continue to finance capital spending plans, Sohn said.
CSFB's Konstam, however, said he doesn't believe low interest rates have to lead to an increase in net issuance immediately to benefit the economy. Rather, the lower rates are allowing companies to refinance significant amounts of debt at lower levels. That paves the way from a more sustainable recovery down the road.
But Konstam doesn't expect any sudden surge in capital spending.
Lonski agrees. "When businesses are more risk averse because investors are demanding they retire debt, the offshoot is slower economic activity on balance," he said.
-By Christine Richard, Dow Jones Newswires; 201-938-2189;
christine.richard@dowjones.com
Updated February 15, 2002 11:53 a.m. EST |
