Capital Markets

Refinancing Debt Percolates as Big Worry

S&P report warns of rate increases for the $794 billion in corporate maturities over the next five quarters.
Stephen TaubOctober 15, 2008

Over the next five quarters, U.S. financial and nonfinancial firms face $794 billion in debt maturities that they potentially need to refinance, according to a chilling report from the Standard & Poor’s Global Fixed Income Research Group.

The estimate — based on bond, notes, and bank debt — is especially worrisome because terms will most certainly be unfavorable for firms that can access the bond or loan market. Currently, bond and loan spreads in the secondary market are at all-time highs, the credit ratings company noted, so it should cost much more to roll over mid- and long-term debt in coming quarters.

“In normal times, this would be business as usual, but the credit freeze has made it difficult for firms, especially in the speculative grade space, to tap markets,” S&P asserted.

About $110 billion in investment-grade debt alone will mature in the fourth quarter, with another $451 billon maturing in 2009. Among nonfinancials, $70 billion is expected to mature in the fourth quarter, with $54 billion, $65 billion, $66 billion, and $81 billion maturing in the following four quarters of 2009. Financials will see $40 billion due in the final period of this year, with $51 billion, $62 billion, $37 billion, and $33 billion coming due in the four 2009 quarters.

S&P said that nonfinancial firms should continue to be able to access markets, although the cost of debt has increased sharply. For example, based on secondary market bond yields, an ‘A’ rated nonfinancial five-year bond might price in the 6 percent to 6.75 percent range, while 10-year issues could be more than 7 percent.

For ‘BBB’, five-year yields are about 7 percent, and 10-year yields are roughly 8 percent. For ‘BBB’-rated bonds, this represents a rise of 100 to 120 basis points compared to the end of August.

For risky credits, maturities might be a potential default trigger until credit markets recover, S&P warned.

The only reassuring note is that the maturity schedule is relatively light for speculative-grade firms through 2010, and should not be a significant source of default pressure.

Breaking down the dates, S&P figures about $56 billion will come due in the fourth quarter, and $177.5 billion in 2009, including $29 billion, $39 billion, $28 billion, and $82 billion in four quarters, respectively. For firms rated ‘B-‘ or below, $8.1 billion in debt will be due in this year’s fourth quarter, and a total of $39 billion in all of 2009.

Stronger speculative-grade credits might continue to be able to roll over bond and loan debt, but at a steeper price. S&P noted that spreads in the secondary market have widened substantially for stronger high-yield credits, such as ones rated ‘BB’. For example, the average ‘BB’’credit would have to pay about 10 percent for a five-year issue today, versus 8 percent at the end of August and 7.5 percent at the end of 2007. This is a huge difference in interest expense.

Normally, companies seeking capital could turn to banks. However, with banks under pressure and investors shunning risk, S&P said it will be very challenging for weaker speculative-grade credits to get capital. “Some firms will look to bridge loans to get them by until markets unlock, but the extent banks will be willing or able to do so is uncertain,” it said. Rather, S&P expects firms will tap any prearranged credit lines or turn to private capital until conditions improve.

“In the near term, we expect that the speculative-grade market will remain under stress,” it stated.

Indeed, high-yield bond market issuance has slowed significantly, to just $4.4 billion in issuance in the third quarter of 2008. Spreads on S&P’s speculative-grade composite index hit a whopping 1,149 basis points on Oct. 11, an all-time high. What’s more, some firms are struggling to service their current debt load, which has increased the number seeking covenant relief, S&P added. “We expect that this will continue into 2009 as negative economic conditions increase cash flow pressures on many high-yield firms,” according to S&P.

Looking past 2009, it continued to see the potential for refinancing risk in the high-yield market. S&P noted that default rates have historically peaked within one or two quarters after a recession ends. And with the economy expected to be weak through 2009, it is quite possible that the default rate will not peak until late 2010. “By then, the maturity schedule will begin to ratchet up,” S&P said.

It warned that while long-term financing will come at a higher cost for investment-grade nonfinancials, short-term financing is more of a concern.

Total outstanding commercial paper fell to $1.55 trillion on Oct. 8 from $1.77 trillion at the end of August, based on seasonally adjusted numbers from the Federal Reserve.

Rates on 30-day ‘A2/P2’ nonfinancial and ‘AA’ asset-backed CP paper have risen to 6.24 percent and 4.33 percent, respectively, from 2.96 percent and 2.65 percent just one month ago. “Firms with short-term ratings of ‘A-2’ or below have seen their ability to access the short-term market diminish or come at a steep cost,” S&P added.

And although it expects the recent Commercial Paper Funding Facility from the Federal Reserve will help restore confidence in the CP market, the facility will only backstop CP that is rated at least A1/P1/F1 by a major nationally recognized statistical rating organization, and not rated below A1/P1/F1 by any major NRSRO.

“It could take time before confidence is restored to the extent that lower-rated issuers can easily access the CP market,” S&P added. “Until the CP market recovers, we expect lower rated issuers will have to lean on backup credit lines for working capital.”