Friday, May 6, 2005 | 9:24 a.m.
DETROIT -- General Motors and Ford Motor Co. lost their investment grade ratings on Thursday, pushing two of corporate America's biggest borrowers into the ranks of junk bonds and rattling the financial markets with the message that the remaining two domestically owned automakers have sunk to their lowest point yet.
The downgrade by Standard & Poor's, the credit agency, reflected the rising pessimism about the kinds of vehicles GM and Ford have placed at the center of their company strategies, as well as worries that these two automakers may not emerge any time soon from their financial troubles.
S&P said it was particularly concerned about declining sales of the large sport utility vehicles that Ford and GM depend on for profit, particularly as Japanese automakers step up their interest in the pickup truck market and push GM and Ford even further into a corner.
The downgrade reduces the number of ways the automakers can raise money and could make it more expensive for them to borrow in the future. But for now they are likely to use other ways of financing their operations besides issuing bonds. It also suggests, according to many financial experts, that the companies' pension funds pose a greater risk of failure than generally acknowledged.
But both companies have sizable stashes of cash on hand, and other companies, including Chrysler (now part of DaimlerChrysler), have been downgraded to junk bond status in the past before staging comebacks.
Borrowing at junk bond prices, as big, heavily indebted startups in risky fields like telecommunications often successfully have, requires paying interest rates 7 to 8 percentage points, sometimes even more, above the rate of ultra-safe government bonds.
Still, the move is not expected to harm the companies' abilities to offer bargain leases and low-interest loans to auto buyers.
On the New York stock exchange, GM shares fell to $30.86, down $1.94, or 5.91 percent. Ford shares fell to $9.70, down $0.46, or 4.53 percent.
The shares of GM, in some ways, were spared a potentially worse fate, as S&P's move came a day after Kirk Kerkorian, the multibillionaire casino operator and financier, declared an offer to spend $868 million to raise his stake in GM to nearly 9 percent of the company. The events of the last two days make GM highly vulnerable to forces both inside the company and outside in the marketplace.
Alone, either GM or Ford would have been the largest corporate debt issuer ever cut to junk bond status by one of the three major debt ratings firms. Together, the two companies have more then $450 billion in debt. Both have been increasing their reliance on alternatives to issuing bonds and are expected to continue to do so. They should have little trouble raising funds, at least in the short term.
The rating agency also said that rising gas prices put the companies even more at risk and cited a number of other concerns, from soaring healthcare costs -- particularly for GM, the nation's largest private provider of medical benefits -- to Ford's close relationship with its troubled former parts subsidiary Visteon, which might require an infusion of capital from Ford.
The agency was also concerned that sales at GM and Ford are falling even as the nation's auto sales are relatively robust, because competitors like Toyota, Nissan and Hyundai continue to sell more cars to more Americans.
"SUVs and pickups together are the segments where GM and Ford have the clearest competitive advantages and we just don't feel that is something that can be relied upon going forward," said Scott Sprinzen, S&P's auto analyst, during a conference call today with professional investors and the news media.
A primary concern is that GM and Ford have not been prescient enough in diversifying their automotive operations beyond sales of big sport utility vehicles and pickup trucks in the United States. Sales of many brand name SUVs, including the Chevrolet Suburban and the Ford Explorer, are down more than 20 percent this year, as consumers shift to smaller, more fuel efficient sport utilities.
Toyota and other foreign competitors have come to dominate the passenger car market while GM and Ford have been forced to sell many of their cars at less than favorable terms to rental car companies, business fleets or to their own employees and their friends and families.
Now, Toyota and other companies are bringing their better reputations for quality and reliability to the SUV and pickup truck market.
In an e-mail on Thursday, Ford's chairman and chief executive, William Clay Ford, Jr., told employees of the downgrade and said S&P's rationale "suggested pretty deep pessimism about the U.S. auto industry's ability to successfully counter increasing competitive challenges."
"I won't speak for others," Ford wrote, "but when it comes to Ford, we don't share anyone's pessimism. And, it is our job to prove our critics wrong."
He added that he believed S&P had not given his company enough credit for its new product introductions and "discounted" Ford's cash reserves and ability to raise more.
Sprinzen at S&P was particularly bleak in his assessment of GM, cutting the company by two notches to BB, and also putting it on a negative outlook. This suggests that the rating agency might even further downgrade the company.
"To downgrade two notches and put it on a negative outlook is a huge move," said Craig Hutson, an analyst at Gimme Credit, an independent bond research firm.
Ford was downgraded one notch, to BB(PLUS), and also put on a negative outlook.
"Ford, we believe, is less burdened by the retiree healthcare issue to a significant extent, and looking at recent quarters, in terms of either cash flow or earnings, Ford has done considerably better than General Motors," Sprinzen said.
The move will also have broad implications for the bond markets; not only will the junk bond market be flooded with new debt, but many large bond investors may be forced by their investment guidelines to reassess their holdings of GM and Ford.
The pension plans of the automakers are also a source of concern because of their immense size.
General Motors has by far the biggest company pension plan in the United States, having promised to pay benefits worth $89 billion to its current and future retirees as of the end of 2004. Until now, GM has been setting aside money to make good on those promises, and keeping its pension plans compliant with the law.
But if it lost its ability to generate enough cash to do that, and had to default on its pension obligations, the cost could overwhelm the federal agency that insures pensions, the Pension Benefit Guaranty Corp.
The Bush Administration has been trying to reduce that risk of a possible bailout with proposals that would tighten the way companies handle their pension funds. The package would impose particularly tough standards on companies whose credit ratings fall below investment grade.
Today, a spokeswoman at Tracinda, the investment firm of Kerkorian, the financier, said Kerkorian "remains committed to making the cash tender offer for GM common shares it announced Thursday."
Jerry Dubrowski, a spokesman for GM, said "we're disappointed with the decision."
"We do have challenges in North America," he added, "we are aware of what they are and we're moving aggressively to address those challenges."
Sprinzen said he saw Ford as slightly better off than GM because it has fewer retirees to support and because its profits have held up better of late. Last month, GM reported a $1.1 billion loss in the first quarter, its largest quarterly loss in more than a decade. And the company has also said it is so uncertain of the future that it is no longer able to provide an earnings projection for the full year.
By contrast, while Ford has sharply cut its earnings outlook for the year, it reported a $1.2 billion profit in the first quarter and is still projecting a profit for the year.
Most analysts do not think GM and Ford are at risk of bankruptcy in the near future. But their wariness increased in March when GM reversed projections and said it would spend $2 billion in cash, rather than generate that amount. The company has since backed away from that projection and not offered another.
GM's cash cushion "does afford the company a lot of flexibility," Sprinzen said. "It's an important reason we didn't go lower than we did. But this is a business where large players can go through a lot of cash in a short period, too, as General Motors has demonstrated recently."
Solomon Samson, S&P's chief rating officer, cited two ways GM and Ford could improve their fortunes. First, he said the companies would be in better shape if they could win concession from the United Auto Workers on healthcare benefits, particularly for retirees. Union leaders, however, said recently they would not be open to talking about significant changes in benefits before the next round of contract negotiations in 2007.
The other strategy would be more fundamental: Make more cars and trucks people want to buy, he said.
"If one of these companies managed to hit a lot of triples and home runs, that would have the potential to stabilize things," he said. "Obviously, we're not banking on either of those."
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