Capital Markets

CIT Challenges Moody’s Downgrade

The big financing firm goes on the defensive, citing balance-sheet and liquidity improvements.
Stephen TaubMay 30, 2008

CIT Group is mad as hell and refuses to take its downgrade from Moody’s Investors Service without a fight.

On Thursday Moody’s dropped CIT’s senior unsecured debt rating from A3 to Baa1 and left the financing company’s long-term ratings on review for possible downgrade. The credit-rating agency affirmed CIT’s short-term rating of Prime-2.

The downgrade of the long-term rating reflects CIT’s business profile, giving consideration to the business transitions now under way and the associated execution risks, according to Moody’s. “In recent quarters, CIT has had to confront difficult operating and funding conditions resulting from deteriorating performance in its home lending business and broader credit market illiquidity,” the agency said. “This has led to a weaker credit profile as reflected in the Baa1 rating.”

In an unusual move, CIT challenged Moody’s assessment. “We disagree with the ratings actions that Moody’s has taken, particularly in light of the significant progress we have made to strengthen our balance sheet, improve liquidity and position CIT for long-term success and profitability,” the company said in a statement. “We have successfully executed on our current strategic funding initiatives, which have included capital raising, asset sales, financings and growth at CIT Bank.”

For a financing firm, a credit downgrade likely would increase its cost of capital, which is its lifeblood. It could also scare away potential business partners and investors who might perceive a higher risk.

CIT noted that in the past 60 days it has raised $1.6 billion in new capital; completed financings of approximately $1 billion, including a $550 million public equipment securitization; sold more than $2 billion of assets at roughly book value; and underwritten $600 million of loans at the CIT Bank.

“In addition, the company continues to advance its other key initiatives, including the previously announced sale of discrete business units and asset portfolios,” said CIT. “Our strategic intent is to focus the company on its market-leading commercial franchises. Our commitment to strong investment-grade ratings remains, and we believe the financial profile and strength of our businesses will generate financial results consistent with ‘A’ rating levels.”

Moody’s acknowledged that CIT has implemented a number of tactical measures to preserve liquidity and capital levels after recording losses in each of the past four quarters related to its mortgage business. “This provided the firm needed cash liquidity to meet debt maturities and continue franchise-preserving levels of new finance asset originations,” Moody’s said.

In fact, the credit rater asserted that CIT has adequate sources of liquidity to provide for its needs during the next 12 months. It also said CIT’s actions have provided the firm additional time and financial flexibility to pursue initiatives that are more strategic in nature but require longer gestation. “CIT is expected to scale its funding and capital levels to support its core commercial finance businesses, while concurrently pursuing exit strategies for its non-core businesses,” stated Moody’s.

Moody’s also said the Baa1 rating anticipates that CIT will maintain a sufficient liquidity cushion to allow it to successfully bridge its current difficulties and to enable it to transition its scale, focus, and funding profile. “However, continuing uncertainty regarding the potential magnitude of cumulative losses in CIT’s mortgage portfolio has been a significant impediment to the firm re-establishing solid footing in the credit markets,” Moody’s noted.

Moody’s said the Baa1 rating remains on review for possible downgrade in recognition of the execution risks associated with CIT’s plans to overcome funding and liquidity issues. “Should the firm’s key initiatives relating to securing a strategic funding partner and containing mortgage business risk prove to be successful, as expected, the ratings would likely be confirmed,” said Moody’s. “Absent this, as noted above, the mortgage portfolio could continue to limit the company’s ability to re-establish its access to the unsecured funding markets, putting further negative pressure on the rating.”

Moody’s also asserted that the Baa1 rating incorporates its view that CIT’s profitability will be constrained in future periods by higher funding costs. “We believe that profitability, as determined by return on average managed assets, is likely to measure at the lower end of the firm’s historical range,” it stated. “Additionally, profitability in recent quarters has been sustained in part by lower loss provisioning than historical norms; thus, unexpected deterioration in asset quality that results in accelerated provisioning is an additional risk factor to earnings strength.”