If the recent series of corporate blowups has taught us anything, it's that ratings triggers can be hazardous to a company's health. Now, some corporates are trying to get rid of some of the most troublesome.
Ratings triggers are provisions in financial agreements that dictate a change in terms if the company's credit rating falls. The most common type requires a company to pay more on a loan if it's downgraded. And while triggers had been "a growing trend," says Richard Lehmann, publisher of the Income Securities Investor Newsletter, "we now see companies starting to resist it."
For credit rating agencies, the dangerous triggers are those that make big demands–that a company pay back a loan, for example, when it's already in trouble. Their effect can be powerful: Enron Corp. sought bankruptcy protection in part because triggers required it to repay investors after its ratings fell below investment grade.
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Even more troubling, a July report from Moody's Investors Service suggests that the majority of companies have triggers, but fail to disclose them to investors. Of the 771 companies it surveyed with a rating of Ba1 or higher, 87.5% had ratings triggers, only 22.5% of which were disclosed in SEC filings. Moody's also concludes that companies choose to keep secret the most problematic ones, given the benign nature of those reported.
Unfotrunately, the big, bad, ugly triggers are the only ones investors and ratings agencies really care about. It's nice to know the others, says Solomon Samson of Standard & Poor's Corp., but "our real concern is when someone puts a provision in a loan agreement that says if you go to non-investment grade, you pay me back the $500 million you've been borrowing in the next seven days."
Will lenders give up triggers? Lehmann thinks so, but adds it could mean higher interest rates. "Banks want to protect themselves but not at the expense of jeopardizing the business," he says.
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