"The Business" reported a big rise in companies facing serious financial difficulties July 16 2006
Opinion of Standard & Poor
More companies are hitting financial difficulties than at any time since 2003, according to data from ratings agency Standard & Poor’s (S&P).
The figures indicate that the global credit boom is coming to an end.
S&P’s Global Potential Fallen Angel survey, one of the key indicators of corporate financial health, reported on Friday that 25 companies gained a speculative rating in the month to July 11, putting $34bn (E26.9bn, £18.5bn) worth of debt at risk.
A speculative rating downgrades their debt to junk status.
This is the first time the companies falling to speculative grade has outnumbered those climbing to investment grade for two years.
The figures explains recent moves by Goldman Sachs and Ernst & Young, among other leading institutions, to bolster their teams specialising in restructuring companies.
The report comes the same week that the Bank of England’s Financial Stability Report gave a stark warning that London’s institutions were taking too much risk and were exposed to a financial downturn.
The Bank warned: “In the event of a sharp fall in asset prices, some of the underlying vulnerabilities in the balance sheets of corporates, households and, ultimately, financial institutions could be exposed.”
The low interest rates of the past two years have left markets awash with credit, protecting failing companies and fuelling a wave of corporate takeovers.
Opinion of Edward Altman (Z-Score inventor)
Edward Altman, a finance professor at New York University who specialises in predicting defaults, told The Business: “The structure of credit markets has changed and non-traditional lenders such as hedge funds and private equity have kept the default rate down. Will it continue? I believe things will change, and change soon.”
Opinion of TMA
Last month, a poll of corporate restructuring experts by the US Turnaround Management Association revealed that 90% of the industry expected “a rude awakening” for credit markets by the end of next year.
The association’s president Colin Cross said: “The combination of high-leverage multiples with an expected increase in default rates indicates the credit markets are in for a major correction by the end of 2007.”
Opinion of a London Bank
In Europe the cycle also appears to be turning.
The head of distressed debt investment at a large London bank said business was starting to pick up next year after a lean 2004 and 2005.
He told The Business: “Up until May this year there hadn’t been a European default for 15 months. There were two European defaults in June and could potentially be three in July.”
He had identified at least 20 companies in Europe moving towards distressed scenarios, mainly auto-suppliers, DIY groups, and four companies who had issued “payment in kind” debt last year.
But he did not expect the coming correction to be as severe as in 2001 and 2002, when the collapse of companies like WorldCom, Enron and Marconi created a E300bn market for distressed debt.
At best, the downturn would create a E120bn market by 2007-2008.
The number dropping to speculative grade, or “fallen angels”, peaked in 2002, says S&P, when there were 146.
In 2004 there were 14, close to the record 1996 low of 11. In 2005, there were 41 and there have already been 25 this year.
Note: The indications of a global credit boom coming to an end is in line with what is observed in South Africa (see the post South African turnaround industry market watch below).
This turnaround news flash was brought to you by Turnaround Solutions - turnaround management consulting firm rescuing distressed companies and improving results of underperforming companies in South Africa.