The Exclusive Club That Few U.S Companies Want to Belong toby and
Companies embrace lower bond ratings to boost their shares
Number of AAA non-financial issuers has been falling for years
It just doesn’t pay to be rated AAA.
After Standard & Poor’s stripped Exxon Mobil Corp. of its top grade on Tuesday, only a pair of U.S. corporate issuers have a gold-plated rating. In October 2006, there were six, according to the ratings firm. In the early 1980’s, there were 32.
At least part of that decline is because corporations have tried to increase their stock prices at the expense of their credit ratings. Exxon Mobil has more than doubled its debt load since 2012, for example, to fuel dividend payments, share buybacks, and capital expenditure, a factor S&P cited when cutting its rating. On Wednesday, the energy company increased its quarterly dividend again.
"The idea of boosting returns in a deliberate debt-funded way has become more acceptable," said Andrzej Skiba, a money manager at BlueBay Asset Management, which oversees about $58 billion in fixed-income assets.
Companies without top ratings have also been willing to accept lower grades. The Federal Reserve kept short-term borrowing rates unchanged on Wednesday, at low levels even after December’s rate hike, and reiterated it will raise rates gradually. Investors have been clamoring for higher returns on bonds, and are willing to buy lower-rated securities to get them.
Corporate bond issuers are happy to oblige. In 2013, JPMorgan Chase & Co. analysts found that over two decades, the share of companies with at least an AA rating fell to less than a tenth from a quarter. Meanwhile, 43 percent had BBB ratings, up from 21 percent. The bank looked at 169 borrowers in the Standard & Poor’s 500 index.
For high-rated companies, getting downgraded usually has little impact on their finances. The average AAA rated corporate bond has a yield 0.67 percentage point higher than government notes with similar maturities, according to Bank of America Merrill Lynch indexes. For AA issuers, that figure is 0.84 percentage point. If a borrower sells $1 billion of notes a year, the difference amounts to spending an extra $1.7 million annually to service debt. That’s rounding error for an issuer like Exxon Mobil, which spent $311 million on interest last year.
"Companies are not really willing to maintain the low amounts of debt on their balance sheets and the large amounts of cash that it takes to maintain a AAA credit rating," said Ben Tsocanos, an S&P analyst.
Longer term, higher debt levels can increase a company’s chances of going under, but for issuers with near-perfect ratings, those odds are low.
U.S. Government Downgraded
Only Microsoft Corp. and Johnson & Johnson have top ratings from S&P now. Those companies have higher grades than even the U.S. government, which the firm downgraded one step in 2011. Exxon Mobil is now also at the AA+ level.
A spokesman for Exxon Mobil said the company places a high value on its strong credit position.
"Nothing has changed in terms of the company’s financial philosophy or prudent management of its balance sheet," Scott Silvestri, a company spokesman, said in an e-mail.
With U.S. yields and inflation still close to zero, and rates in Europe and Japan at negative levels, investors are still more than willing to buy lower-rated debt from investment-grade American companies.
"If the market’s going to allow a company to lever themselves and finance at cheaper levels, they’re going to continue to do that. It’s sort of a self-fulfilling prophecy," said Matthew Duch, a money manager at Calvert Investments in Bethesda, Maryland, which looks after $12.2 billion of assets.