Corporate America Hunkers Down After Pandemic-Fueled Debt Binge

(Bloomberg) -- Blue-chip U.S. companies are slowing down on borrowing after months of massive bond sales and hanging onto the money they've raised to insulate themselves from the pandemic.

The biggest U.S. banks hardly sold any notes after posting earnings, a time when they often issue heavily. Overall corporate bond sales in July dropped by a third to about $60 billion from the same time last year, according to data compiled by Bloomberg.

Corporations' reluctance to spend now reflects the intensity of the downturn that the Covid-19 pandemic is triggering. The U.S. economy shrank at an annualized pace of 32.9% in the second quarter, the steepest drop since at least 1947, according to a report Thursday. Any slump in corporate expenditure will only make the downturn worse, and underscores the limits of the Federal Reserve flooding the financial system with money if parties are wary of spending.

“Companies have a lot of cash on their balance sheets and they don't seem to need more at this point,” said Dominique Toublan, head of U.S. credit strategy at BNP Paribas SA. “Keeping that cash a bit longer seems to be the safe thing to do given the current uncertainty.”

That may not bode well for the economy, but it could be a positive for bondholders: Lower supply combined with continued support from the Federal Reserve and strong investor demand for yield globally could bolster company debt even as risks for the securities grow, JPMorgan Chase & Co. strategists wrote this week. The relatively light issuance from U.S. banks this month after their earnings are likely a taste of what we'll see from other investment-grade companies in the coming months, they said.

Read more in this week's Credit Brief: Few Companies Are Borrowing

Investment-grade companies have sold more than $1.2 trillion of U.S. bonds this year, according to Bloomberg data, more than they sold for each of 2018 and 2019. The biggest U.S. banks have issued more than $155 billion, exceeding the $135 billion they raised for all of 2019, according to Bloomberg data.

To the extent blue-chip companies are playing it safe now, they're reversing the trend of most of the past decade. The market value of investment-grade corporate debt outstanding has more than doubled since the end of 2011, while revenue for S&P 500 members rose less than 40% between that year and the end of 2019. Debt relative to measures like earnings has only deteriorated this year as sales for many corporations have plunged.

The picture for companies was deteriorating even before Covid-19 spread. Total corporate profit after taxes fell 0.4% to $1.95 trillion in 2019 from the year before, according to gross domestic product figures.

Now the situation is worse, giving companies less incentive to invest in new factories or use their cash for anything other than holding on, said Lacy Hunt, chief economist at Hoisington Investment Management Co.

“There's no motivation from earnings to invest in capital spending,” Hunt said.

Debt Buybacks

Corporations are often willing to spend money to reduce risk. Some, for example, are buying back debt, usually notes that mature in the next few years and will need to be refinanced anyway. Taking care of those bonds now reduces the potential for having to borrow in the future when it may be harder or more expensive.

High-grade companies tendered for a little more than $80 billion of bonds in the second quarter, compared with about $14.4 billion in the first quarter, according to BNP. AT&T Inc., the world's largest non-financial borrower, sold $11 billion of bonds on Monday to buy back high-interest debt due in the next five years.

In April and May, General Electric Co. and GE Capital sold more than $10 billion of bonds combined, and used the proceeds to refinance notes maturing over the next few years and other debt. GE overall reduced its debt outstanding in the first half of the year using proceeds from the sale of its biopharma business.

Even some junk-rated companies are cutting back. Netflix Inc., which is benefiting from higher revenues as more consumers stay home and watch television and movies in the pandemic, said in its quarterly results this month that it won't need to issue new debt for the rest of this year, and that it expects to have enough liquidity to fund its operations for at least the next 12 months.

Companies may rush to borrow again if the shutdown proves to be prolonged, or if it makes sense to refinance more debt maturing in 2021, according to Erin Lyons, a credit strategist at CreditSights. But there's little sense from companies that they need to rush to lock in low rates now, because “rates aren't going anywhere anytime soon,” Lyons said.

“The other wild card could be M&A,” Lyons said in a telephone interview Monday. “You could potentially see an increase in M&A as debt is cheap, and there's going to be battered companies coming out of Covid, presenting a good opportunity to find good assets, cut costs and improve Ebitda.”

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