Credit

Criminal Probes Can Be Harmful to Your Credit Health

A new report by Moody's explains how an investigation by the Department of Justice can depress your credit.
Alan RappeportJuly 18, 2007

Companies facing investigations by the Department of Justice should not be surprised to see their ratings downgraded, according to a new report by Moody’s, the ratings firm.

Criminal investigations that suggest a failure of corporate governance or control–which could potentially come with legal penalties and restrictions–tends to warrant a lower credit rating, says Moody’s.

“Moody’s takes seriously any major criminal investigation that involves the corporate entity or its senior executives,” said Christian Plath, Moody’s assistant vice president, who wrote the report.

Pre-trial agreements, which typically lead to DOJ investigations, have been on the rise during the last seven years. Since January 2000, 26 companies rated by Moody’s have entered into such agreements and the ratings agency downgraded seven of them. Of the companies that entered pre-trial agreements, 21 had investment-grade ratings by Moody’s.

Perps are apparently proliferating.”We get a large number of companies who are investigated by the DOJ,” Mark Watson, managing director of Moody’s corporate-governance team, told CFO.com. “It was striking that these pre-trial agreements were in the higher end of our spectrum.”

Not all ratings firms see a close correlation between DOJ probes and a company’s rating. Chris Atkins, vice president of corporate communications at Standard and Poor’s, another ratings agency, said that each company is evaluated on its own merits regardless of its status with the DOJ.

“Some of them have an adverse impact and some don’t have any impact at all,” says Atkins of DOJ investigations.

Last year, Fitch, the third largest ratings firm, said that it was not changing its rating of General Reinsurance Corp. after the DOJ indicted three of its former executives on criminal charges. However, it said at the time, if the company or any of its current executives faced criminal charges, it could face “negative ratings consequences.”

Moody’s says it doesn’t wait until the DOJ takes action on a company to change its rating. Instead, it lowers the rating during the investigation and affirms it once a settlement is reached. When making its assessment, Moody’s looks at the effect on the issuer’s business, the potential financial impact of settlements, whether the company has a “culture of weakness” or a problem at the top, and how well the company cooperates with the DOJ, according to the report.

“We look to change processes and procedures without giving the company a debt blow,” says Plath.