Moody's says global markets reflect liquidity shortage, not credit crisis

By Jennifer Lanning Drey

Portland, Ore., Sept. 14 - Corporate issuers in the United States, Europe and Latin America are facing a liquidity crunch rather than a corporate credit crisis, members of Moody's Investors Service's corporate finance team said Friday during a teleconference held to discuss the current liquidity stress in the market.

"The major themes are consistent across the globe. Corporate balance sheets are in good shape. Most companies took advantage of the easy lending up to July to refinance bank lines or negotiate more favorable terms," Michael Rowan, group managing director for corporate finance, said during the conference.

Additionally, representatives from the agency said that the market's current stress has substantially different characteristics than the last period of market stress, which began in 2001.

A primary difference is that most investment-grade issuers now have multi-year committed revolving credit facilities or 364-day facilities with a term loan option. Fewer of those facilities have material adverse change clauses and most companies have ample covenant room, said Daniel Gates, chief financial officer for corporate finance in North America.

"The vast majority of investment-grade issuers can obtain cash by borrowing under their committed facilities," he said.

The primary risk related to the current market turmoil is that it may last for an extended period and in that time lead to substantial economic deterioration.

Taking into account the current troubles, Moody's does expect to see a significant increase in the corporate default rate due to the mix of credit quality in the market and the absence of easy lending.

"More defaults will occur when highly leveraged issuers with negative free cash flow simply run out of cash and are unable to sustain their business operations," Gates said.

North America concerned about economy

In North America, the disruption has caused issuers to see a reduction in market access, tighter credit standards for low-rated issuers and increased concerns about the credit impact of weakened consumer spending and economic conditions, Gates said.

"We have concerns that tighter credit standards will have a broad effect on economic activity beginning with sectors that are particularly sensitive to consumer spending on big-ticket items and discretionary purchases," he said.

"In the event that the credit crunch causes a recession, the negative effects would be felt across many sectors and the default rate would be expected to be higher than our current forecast."

Additionally, Gates said that while the North American investment-grade bond market has returned to normal levels, the market for investment-grade commercial paper continues to be affected, as investors put higher value on liquidity.

The volume of outstanding commercial paper has dropped by about 10% since August.

However, Moody's does not believe the tight conditions in the commercial paper market signal broader stress for investment-grade issuers.

North American speculative-grade issuers also appear to be in good overall shape, as most do not have significant near-term debt maturities, Gates said.

European impact diverse

The impact of the current market conditions is likely to have a diverse effect on European companies, although most issuers there already have contingency plans through their bank facilities that protect them from a lack of access to the capital markets, Eric de Bodard, chief credit officer for Europe, said Friday.

"Our diagnosis at this time is that European corporates, at least investment grade, are by and large in good financial shape with proper liquidity management in place," he said.

Liquidity problems in Europe appear to be company specific rather than sector specific and are largely related to spending practices and management policies.

However, as in other regions, a prolonged liquidity crunch could cause additional problems.

"To the extent that it is material, it will have an impact on the credit quality, in particular for cyclical industries, sectors with weak performance or highly levered issuers," de Bodard said.

Some companies have also left the commercial paper market in Europe, but have done so in an orderly fashion, he said.

Latin American issuers have adequate cash

Few companies in Latin America have committed revolving credit facilities, which could be a concern in an extended liquidity crunch, but most can cover their upcoming maturities with current cash and free cash flow, Alexander Carpenter, regional credit officer for Latin America, said Friday.

Additionally, most Latin American management teams have maintained conservative financial policies and financed recent investments and acquisitions with cash generation and equity issuances.

In the remainder of 2007 and early 2008, strong economic activity should continue to support corporate issuance and credit quality in Latin American countries that are less exposed to U.S. slowdowns, such as Brazil.

Economies more closely correlated with the U.S. economy, including Mexico and Venezuela, may see a weaker environment for corporate issuers.

"Although Latin American credit markets were affected by the subprime crisis, we believe that higher-rated issuances will have alternative financing available in local capital or banking markets, although at a higher cost than earlier this year," Carpenter said.

"Their strong and improving fundamentals may allow for a reopening of the cross border market within the next few months."

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