Issuers could face downgrades if their liquidity is impaired under the Financial Accounting Standards Board's new pension and employee benefits accounting rules. Jonathan Nus, director of credit market services at Standard & Poor's, said companies' liquidity may be affected if the new standard forces issuers to renegotiate debt and equity covenants.
The new accounting code requires companies to report their defined benefit pension and other post-retirement plans directly and fully on their balance sheet. Because this increases the amount of debt companies carry on their balance sheets, some issuers may have to renegotiate leverage covenants to comply with their credit agreements. Certain issuers may also find they have to renegotiate equity covenants because they will have less reported equity resulting from increased leverage. Both loan and bond covenants could be triggered.
Nus said he does not expect a large number of ratings changes because most companies that have large pension and OPEB obligations have taken steps to make sure they are not in breach of covenants. Nevertheless, companies that have to pay a lot of additional cash or provide increased security to obtain waivers may find their ratings under review. "The risk [of downgrade] is still there," said Nus.
Nus said it was too early to identify specific companies that may be facing downgrades, but those most vulnerable are in old economy sectors, such as auto makers, auto suppliers, capital goods and chemical companies. They risk breaching covenants because pension funds and other employee benefits constitute a large part of their compensation arrangements.
FASB issued the new accounting rules Sept. 29. Companies that have publicly traded stock have to comply by the next annual reporting cycle, while companies that have no publicly traded equity are given another year to comply.