During the period of post-financial crisis quantitative easing (QE), when central banks led by the Federal Reserve sent interest rates down to historic lows, many corporations saw a golden opportunity to borrow cheaply. Now many of those loans and bonds are reaching their due dates and maturity dates, raising concerns among investors about the ability of heavily indebted companies to repay or refinance. "It's number one for us,” says Rob Almeida, global investment strategist for MFS Investment Management, in remarks to the Financial Times.
Meanwhile, Goldman Sachs advises investors to be wary of companies with weak balance sheets, and they created a basket of 50 such stocks that includes these eight: CBS Corp. (CBS), CenturyLink Inc. (CTL), Hewlett-Packard Enterprise Co. (HPE), MGM Resorts International (MGM), Williams Cos. Inc. (WMB), Baker Hughes, a GE Co. (BHGE), Nielsen Holdings PLC (NLSN), and The Kraft Heinz Co. (KHC). Goldman uses Altman Z-scores to assess balance sheet strength, as presented in the table below.
8 Stocks With Weak Balance Sheets
- CBS, 0.5
- CenturyLink, 0.6
- Hewlett-Packard Enterprise, 0.8
- MGM Resorts, 1.0
- Williams, 0.6
- Baker Hughes, 0.8
- Nielsen, 1.0
- Kraft Heinz, 1.1
- Median stock in Goldman's weak balance sheet basket, 1.3
- Median stock in S&P 500 (excluding financials, real estate, utilities), 3.4
- Median stock in Goldman's strong balance sheet basket, 11.1
Source: Goldman Sachs, "Anatomy of our US Portfolio Strategy Thematic and Sector Baskets"
Significance for Investors
The Altman Z-score is based on several financial ratios, and originally was developed to measure a company's risk of going into bankruptcy. The lower the score, the higher the risk.
“Leverage matters, especially for those that do something unsustainable. The gross amount of leverage which has increased since 2007 is problematic," Almeida adds. Responding to investors' worries, a growing number of major corporations have made debt reduction a top priority.
A cause of particular worry is the fact that, in the next three years, about one-third of triple-B rated bonds issued by U.S. corporations will come due. These bonds form the lowest tier of investment grade debt, just a notch above so-called "junk bonds." Kristina Hooper, chief global market strategist for asset management giant Invesco Ltd., calls this a “wall of maturities” that will put severe pressure on highly-indebted companies, per the FT.
"This is a potential crisis that could evolve. We could see a situation in where companies are not able to cover debt service, or, when debt matures, obtain new funding at higher levels, squeezing profit margins," Hooper added. It should be noted that Goldman does not indicate whether any of the stocks in their weak balance basket faces an imminent "wall of maturities," or what the ratings on their debt are.
With a slowing economy putting pressure on top line revenues for many companies, and rising operating costs, most notably wage costs, hurting profit margins, raising the cash to pay off debt obligations on schedule is becoming increasingly challenging for many companies. For those that are able to refinance, higher interest rates will take a bigger bite out of earnings. The road ahead is bound to be a rocky one for highly leveraged businesses.