Oh, the sweet, saccharine smell of pretense.
It looks as though the days may be numbered for General Electric Co.’s top-notch, AAA credit rating. Sure, the debt swamis at Moody’s Investors Service and Standard & Poor’s haven’t cut it yet. Just give them time, though, for there’s little doubt about how this story should end.
The first step, going by the usual script, is for one of the raters to declare there’s an outside chance it will unleash the dreaded downgrade, years after the bond markets stopped believing its ratings anyway. S&P did that Dec. 18, saying there’s a 1-in-3 possibility it would cut the pristine ratings at GE and its finance arm, GE Capital Corp., within two years.
Step two is for the other big rating company to say “me, too.” True to form, Moody’s this week said it will begin its own review of GE and GE Capital.
Next comes the elaborate dance. Months pass. Hands are wrung, and images of deep reflection evoked. Out of nowhere, one of the raters then says it has begun last-chance, we-really-mean-it-now deliberations, laying the groundwork for the final blow, which may or may not come swiftly. Whichever rater gets there last looks all the more foolish. Meanwhile, the rest of us scratch our heads, amazed at the whole charade.
It’s unclear how costly a downgrade would be to GE’s business. Here’s what GE said in a Jan. 27 statement responding to the Moody’s news: “Our objective is to maintain our Triple-A rating, but we do not anticipate any major operational impacts should that change.”
The Fairfield, Conn.-based conglomerate sounded a more measured note in the quarterly report it filed Oct. 30 with the Securities and Exchange Commission. Failure to maintain its AAA rating, GE said then, “could adversely affect our cost of funds and related margins, liquidity, competitive position and access to capital markets.”
It boggles the mind to think the rating companies still carry such weight. The only reason they matter, it seems, is that they just do. It probably will stay this way, too, as long as the SEC sanctions them with official status.
In theory, Moody’s and S&P exist to provide investors with divine insight into a debt issuer’s creditworthiness, notwithstanding that they get paid by the same companies they grade. And yet, in one high-profile embarrassment after another, they keep getting caught looking like Mr. Magoo.
This pattern has become such a familiar ritual, it’s a wonder the credit-rating companies have managed to stay in business. Even if we take the raters at their word that the pay-to-grade system doesn’t corrupt them, just look at the results.
Both Moody’s and S&P were slow to cut Enron Corp.’s investment-grade rating as the energy trader collapsed in 2001. They put their AAA imprimatur on countless rounds of toxic mortgage-backed securities. And they were years behind when they eventually conceded in 2008 that the troubled bond-insurance unit of MBIA Inc. wasn’t AAA, either.
Now we’re supposed to believe that Moody’s and S&P need months more to decide if GE still is AAA. While reasonable people might disagree on what the proper rating for GE should be, it shouldn’t take more than a few minutes for Moody’s and S&P to figure out that AAA is the wrong rating.
By GE’s estimates, all but about $2.6 billion of the $16 billion of excess cash the company expects to generate in 2009 will go toward paying dividends.
As of Dec. 31, GE had just $8 billion of tangible shareholder equity, excluding $96.7 billion of goodwill and other intangible assets. GE’s long-term debt, by comparison, was $523.8 billion. That’s a ratio of 65, which makes the old wild men of Wall Street and their 30-to-1 leverage look prudent.
GE’s tangible equity would have been negative were it not for $12.2 billion the company raised in October by selling common shares at $22.25. The stock since has dropped to $13.50, complicating efforts to raise more capital cheaply. And like many lesser-rated financial companies, GE has had to turn to government guarantees to issue new debt.
During his congressional testimony last October, S&P’s president, Deven Sharma, said his company’s most valuable asset was the effectiveness of its ratings “in informing the markets about both deterioration and improvement in credit quality.” The chief executive of Moody’s Corp., Raymond McDaniel, posited a similar benchmark. “I believe that we should be the leading edge for predictive opinions about future credit risks,” he said.
Wouldn’t that be wonderful.
Jonathan Weil is a Bloomberg News columnist. The opinions expressed are his own.