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U.S. Companies Sit On A Mountain of Debt (#GotBitcoin?)

Total Debt For US Corporations Tops $6 Trillion

The riskiest borrowers are more leveraged than they were even during the financial crisis, according to S&P’s analysis, which looked at 2017 year-end balance sheets for non-financial corporations. U.S. Companies Sit On A Mountain of Debt 

On first glance, total debt has risen roughly $2.7 trillion over the past five years, with cash as a percentage of debt hovering around 33 percent for U.S. companies, flat compared to 2016. But removing the top 25 cash holders from the equation paints a grimmer picture.

Speculative-grade borrowers, for example, reached a new record-low cash-to-debt ratio of just 12 percent in 2017, below the 14 percent reported in 2008 during the crisis.

These borrowers have $8 of debt for every $1 of cash,” wrote Andrew Chang, primary credit analyst at S&P Global. “We note these borrowers, borrowed significant amounts under extremely favorable terms in a benign credit market to finance their buyouts at an ever-increasing purchase multiple without effectively improving their liquidity profiles.”

The trend persists even among highly rated borrowers: More than 450 investment-grade companies not among the top 1 percent of cash-rich issuers have cash-to-debt ratios more similar to those of speculative issuers, hovering around 21 percent.

This could lead to trouble for the economy as interest rates rise. The Federal Reserve, which has already hiked rates twice so far this year, has indicated that further increases may be needed to keep the economy in check later in 2018. It has also actively reduced the amount of purchases it is making in the Treasury and mortgage markets.

Many investors remain concerned about corporate leverage, which still matches the highest level hit during the financial crisis.

U.S. companies have been scaling back borrowing while posting improved earnings, marking their first sustained stretch of deleveraging since shortly after the financial crisis and stoking cautious optimism they can reduce the threat from their still-elevated debt levels.

The U.S. corporate sector started to cut its aggregate pace of borrowing by some measures after commodity prices plunged a few years ago, dealing a blow to energy companies and the debt investors who had funded them. Now, higher interest rates and changes in the tax code have created a further drag on bond issuance, just as a pickup in economic growth has lifted corporate earnings.

The level of debt in the corporate sector has been widely viewed as a major risk to the U.S. economy, after a period of aggressive monetary stimulus and ultralow interest rates helped fuel a borrowing boom in recent years.

While debt can help companies when the economy is doing well, it can magnify problems when conditions sour, making even modest deleveraging a welcome development to investors.

The year-to-year growth of earnings before interest, taxes, depreciation and amortization—a measure of cash flow known as Ebitda—generated by U.S. corporations has now roughly matched or exceeded debt growth for six straight quarters, according to Bank of America Merrill Lynch data, following 21 quarters in which the opposite was true.

As a result, U.S. corporate debt amounted to 3.4 times Ebitda on June 30. That is down from a recent peak of 3.5 times in early 2016. In the previous five years, leverage rose steadily from a postcrisis low of 2.6 times using that measure of debt as a multiple of cash flow.

“Earnings are growing, and companies are not borrowing as much, so the process of delevering is under way,” said Oleg Melentyev, a credit strategist at Bank of America Merrill Lynch.

Mining giant Freeport-McMoRan Inc. is one company that has reduced leverage in recent years. In 2015, Freeport was a prime example of a natural-resources company that had borrowed too much after the financial crisis, having increased its debt by nearly six times to more than $20 billion as it expanded into the oil-and-gas business.

The steep drop in oil prices, however, forced Freeport to shift strategy. For the past few years, the Phoenix company has been selling assets and paying down bonds, bringing its total debt down to $11.1 billion as of June 30. Meanwhile, its adjusted Ebitda nearly doubled in the second quarter from a year earlier, resulting in leverage of 1.4 times cash flow, down from 2.9 times in the year-earlier period, according to research firm CreditSights.

Examples of deleveraging outside the energy sector are typically not as dramatic. One factor is the sharp decline in bond issuance by investment-grade technology companies, which generally have slowed their borrowing to finance large share-buyback programs after the tax overhaul changed the treatment of overseas cash holdings.

Through Aug. 23, total bond issuance this year by investment-grade tech companies was $21 billion, down from nearly $114 billion through the same period last year, according to Dealogic. Apple Inc. and Oracle Corp. , for instance, haven’t issued any bonds in 2018 after selling a combined $45.7 billion last year.

Debt investors generally aren’t interested in this sort of deleveraging because it doesn’t affect net debt, or total debt minus their cash holdings. It also suggests companies are still making it a priority to return cash to shareholders rather than improve their balance sheets.

Many investors remain concerned about corporate leverage. According to the most recent Federal Reserve data, total U.S. corporate debt stood at 45.2% of gross domestic product at the end of the first quarter. That is down a tick from 45.3% six months earlier but still matches the highest level it reached during the financial crisis.

“The corporate sector in the United States is highly levered relative to where it’s been,” said Christian Stracke, global head of credit research at Pacific Investment Management Co. Even if it doesn’t directly lead to a recession, this elevated debt burden could eventually cause “a lot of potential stress and a lot of potential problems” if the economy gets worse, he said.

Some companies, meanwhile, are still ramping up their leverage. In recent years, credit-ratings firms have often allowed companies to maintain their investment-grade ratings even as they have added significant amounts of debt to finance acquisitions. While interest rates have ticked higher, that trend has continued this year with, among other examples, Dr Pepper Snapple more than doubling its leverage as it merged with Keurig Green Mountain. The new Keurig Dr Pepper Inc. is rated investment-grade Baa2 by Moody’s Investors Service, one notch below Dr Pepper’s old Baa1 rating and three notches above Keurig’s old junk Ba2 rating.

For nearly a decade, companies have taken advantage of extremely cheap money set by the Fed and foreign central banks trying to pump up sluggish growth.

Excluding the highly leveraged financial sector, corporate debt relative to GDP matched an all-time high during the third quarter of 2017, according to an analysis of the most recent numbers by Informa Financial Intelligence.

“It’s certainly a reason to be cautious, particularly when we are long into this growth cycle and the Fed is raising rates,” said David Ader, chief macro strategist at Informa Financial Intelligence.

“Everything is fine and well — until it isn’t,” he said.

Many investors remain concerned about corporate leverage, which still matches the highest level hit during the financial crisis.

According to the most recent Federal Reserve data, total U.S. corporate debt stood at 45.2% of gross domestic product at the end of the first quarter. That is down a tick from 45.3% six months earlier but still matches the highest level it reached during the financial crisis.

“The corporate sector in the United States is highly levered relative to where it’s been,” said Christian Stracke, global head of credit research at Pacific Investment Management Co. Even if it doesn’t directly lead to a recession, this elevated debt burden could eventually cause “a lot of potential stress and a lot of potential problems” if the economy gets worse, he said.

Some companies, meanwhile, are still ramping up their leverage. In recent years, credit-ratings firms have often allowed companies to maintain their investment-grade ratings even as they have added significant amounts of debt to finance acquisitions. While interest rates have ticked higher, that trend has continued this year with, among other examples, Dr Pepper Snapple more than doubling its leverage as it merged with Keurig Green Mountain. The new Keurig Dr Pepper Inc. is rated investment-grade Baa2 by Moody’s Investors Service, one notch below Dr Pepper’s old Baa1 rating and three notches above Keurig’s old junk Ba2 rating.

 

 

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Your questions and comments are greatly appreciated.

Monty H. & Carolyn A.

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