Where Credit Is Due

A new study of the largest issuers of corporate debt shows that recent gains in creditworthiness are more fragile than you think.

Short of exiting one industry for another, in fact, there isn’t much a company can do about asset volatility, as MKMV’s measure primarily reflects investor perceptions of an industry. In TXU’s case, a rise in asset volatility plus a decline in the market value of its assets more than offset an improvement in its default point, raising near-term liquidity concerns in late 2002. In response, the company has raised some $1.25 billion in debt securities, cut its dividend, terminated expansion into nonregulated markets, and cut costs. That has enabled the company to build cash and pay down some $2.3 billion in bank debt this year.

“We recognized that we had a challenge on our hands,” notes CFO Dan Farell. He concedes that TXU’s efforts to shore up its balance sheet won’t be complete for another year or so.

Of course, capital restructuring is never easy, if only because the old saw about credit being available only when you don’t need it happens to be true. As Williams found, it wasn’t until a few brave souls stepped forward with new financing that the company was able to get more from others, including the public.

In some cases, the challenge amounts to turning around a battleship in rough seas. That’s the case at General Electric Co., whose huge amounts of commercial-paper issuance were the subject of intense concern among some large bondholders in the wake of Enron’s meltdown in early 2002. But GE had already begun terming out large chunks of commercial paper, trading the shorter-term liabilities for long-term—a move that a spokesperson describes as a concerted effort to adopt “a more balanced debt portfolio.”

At this point, the results of the effort are mixed. While lengthening the maturity of the liabilities postpones the amount of principal due nearer term, GE’s EDF has risen by more than 1,300 percent (a 38 basis-points change) during the past three years, ranking it 84th among the top debt issuers in overall improvement during that period. And that result came despite a small decline in asset volatility. The culprit was a huge spike in market leverage, and the cause of that was GE’s default point, reflecting for the most part the company’s liability structure. This measure rose almost 49 percent during the period, while the market value of its assets fell by 17 percent.

Granted, those numbers have improved during the past six months, with GE’s default point rising only 5 percent during the period and its asset value improving by a robust 12 percent, thanks to a rebound in its stock price. But for the full year, GE still trails most companies in terms of improved creditworthiness. Its 17 percent decline in EDF during the period ranked it 66th among the top 100 debt issuers.

With some 40 percent of its profits coming from financial services, GE is inherently dependent on leverage—and equity investors realize that. The auto companies find themselves in a similar position, with huge financial subsidiaries no less critical to their strategy.


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