Overnight Moody’s Investor’s Services downgraded BHP’s issuer rating by two notches from ‘A1’ to ‘A3’ and maintaining the outlook as Negative, completing a review that was initiated on 18th December 2015. Moody’s downgrade reflects recent weak results that have materially stressed BHP’s credit metrics relative to rating tolerances. Standard & Poor’s (S&P) downgraded BHP from ‘A+’ to ‘A’ with a negative outlook during February. Moody’s rationale for the two notch downgrade and for maintaining a negative outlook were:
- The downgrade to A3 reflects the deterioration in the company’s earnings and cash flow, which has led to significantly weaker credit metrics;
- Moody’s views current weak commodity prices and softer demand as representing a fundamental shift in the operating environment beyond a normal cyclical downturn;
- As a result, and notwithstanding changes to the firm’s dividend policy and capital expenditure plans, which are themselves credit positive developments, Moody’s expects BHP Billiton’s credit metrics to remain substantially weaker, over the next 12-24 months, than historical levels and to be more appropriately aligned with a rating of A3;
- The negative outlook reflects pricing pressure and weaker fundamentals for the commodities which BHP Billiton produces and Moody’s view that the firm’s credit metrics will remain at weak levels for an A3 for the next 12-18 months, before improving to more appropriate levels.
A Moody’s rating of ‘A3’ is generally regarded as being the equivalent of an S&P rating of ‘A- ‘ which means that BHP continues to have a ‘split rating’ with Moody’s being the lower rating. While markets were probably expecting only a one notch downgrade given S&P’s move, if we assume the worst is behind us in the commodity cycle and we don’t test new lows, S&P’s rating will likely prove more accurate relative to the risks. If however commodities take another leg down, Moody’s will prove to be correct. BHP reported their 2016 first half results during late February and as a result we are currently in the process of reviewing our recommendations.