Amid sector challenges and rising defaults, default-related losses are likely to be higher in retail than in other sectors, especially for creditors that are either unsecured or have junior-lien positions, according to a new report published by S&P Global Ratings on Thursday.
Furthermore, with retailers historically showing a higher tendency to liquidate rather than reorganize after default, a separate report also finds that recovery prospects in a liquidation scenario are often dramatically lower than when a company continues to operate. This is because most retailers are asset light, meaning most creditors are highly dependent on profitability and cash flow as a source of repayment.
The overall credit environment is generally improving amid mostly favorable economic conditions, including modest but steady GDP growth, low unemployment, tame inflation, and healthier household balance sheets. This environment—and more stable oil and gas prices—has contributed to a sharp decline in the speculative-grade default rate, which has dropped from 5.1% at the end of 2016 to 3.8% at the end of June, and now stands below the historical long-term average of 4.3%.
In contrast, distress and default levels are rising in the retail sector, with factors such as adapting to online retailing, rising competition, and shifting consumer tastes and spending habits contributing to the struggles.
In terms of trouble ahead, 18% of U.S. retail ratings are in the CCC category or lower, about double the level at the beginning of the year.
Meanwhile, the market is also signaling concern with the distress ratio —the share of speculative grade issues with option-adjusted spreads more than 1,000 bps above Treasuries—rising to 21% for the retail sector, well above that of the oil and gas sector, which has the next-highest distress ratio for a non-financial sector at 14%.
In the post-default scenario, overall recovery prospects for creditors to U.S. retailers are much lower than those for the greater domestic corporate universe, especially for creditors that are either unsecured or have junior-lien positions.
In the event of liquidation, estimated recoveries in the retail sector would be about 50% lower than going-concern recoveries on average. The full reports entitled “U.S. Retail Debt Recoveries Likely To Be Below Average Amid Sector Challenges And Rising Defaults“, and “U.S. Retail Recovery Prospects: Liquidation Could Lead To Worse Recovery Outcomes,” are available at www.globalcreditportal.com and at www.spcapitaliq.com. — Staff reports
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