Default Threat Grows In Tight Market

Some 29 buyout-backed companies with an estimated $17.3 billion in publicly-traded debt are at high risk of defaulting on those obligations, according to a new report from ratings agency Standard & Poor’s.

As of July 31, at least 29 of the 89 companies on S&P’s monthly Weakest Links list were owned by buyout firms, according to research by Buyouts. These companies include The Carlyle Group’s Water Pik Technologies Inc., Cerberus Capital Management’s IAP Worldwide Services Inc. and Oak Hill Capital Partners’ Duane Reade Inc.

To make the list, companies must have speculative corporate credit ratings of ‘B-’ or lower with negative implications. Negative implications indicate S&P’s belief that a further downgrade is likely. Speculatively rated, or high-yield, debt is often the riskiest piece of a company’s capital structure. According to S&P, between 1981 and 2006, 10 percent of all entities rated ‘B-‘ have ended up in default within a year of attaining that rating. Moreover, 26 percent of all ‘CCC+’ or lower rated entities have made the transition to default within a year after attaining that rating.

In January 2007, S&P loosened the eligibility requirements for its Weakest Links list, allowing more companies the opportunity to hold the dubious honor of an appearance on the docket. Prior to January, the cutoff for the list was a CCC rating, as opposed to today’s ‘B-’ with negative implications.

Consumer products-related portfolio companies appear more frequently than companies from any other sector on the list, with seven such businesses on the list. Media and entertainment comes next with six LBO-backed businesses, followed by health care and restaurants, each with four sponsor-backed companies.

Poor company performance, particularly in the consumer products and restaurant industries, could signify diminishing consumer confidence and the beginning stages of an economic downturn. Looking ahead, with the credit markets showing little sign of rebounding, the number of sponsor-backed businesses at high risk of default could well rise even higher. Indeed, since S&P published its August Weakest Links report, at least one more buyout backed company appears ready to join the list.

Late last month, S&P downgraded the corporate credit rating of True Temper Sports Inc., a portfolio company of Gilbert Global Equity Partners, to ‘CCC+’ from ‘B-’ following reports by S&P of weaker-than-expected performance and limited liquidity. Even though True Temper Sports already had a ‘B-’ rating before its recent downgrade, it did not have the negative implications necessary for it to have appeared on S&P’s Weakest Links list.

Meanwhile, in a move that could signal increasing problems for Oreck Corp., the vacuum cleaner manufacturer owned by American Securities Capital Partners, S&P said it withdrew all ratings on the business at the company’s own request. The ratings agency cited a lack of adequate information to maintain any ratings on the New Orleans-based company, which would make it difficult to track the full extent of the company’s troubles. Oreck had a corporate credit rating of ‘CCC-‘ prior to its being dropped by S&P. In June, the company’s corporate credit rating was lowered to ‘CCC+’ from ‘B-.’ American Securities declined to comment.