Qwest Graded Up and Down
Qwest Communications International Inc.’s (NYSE: Q) exchange of $5.2 billion in debt on Monday may have been hailed as a blessing by some investors (see Qwest Sheds Some Debt), but it didn't help the company's standing with credit rating agencies such as Standard & Poor’s and Moody's Investors Service.
In an announcement this evening, Moody's said that it had downgraded the company's Qwest Capital Funding Inc. unit from Caa1 to Caa2. Moody's said that Qwest's corporate rating remains on review for possible downgrade (see Moody's Downgrades Qwest).
S&P earlier this week downgraded Qwest’s bonds to “SD,” or selective default. The rating agency also cut Qwest Capital Funding to “D,” or default. But then this evening, S&P said it had completed a review of Qwest's debt and had restored Qwest's corporate rating to the B- it had before the debt exchange. It assigned a CCC- rating to Qwest Services Corp., and a CCC+ rating to Qwest Capital Funding (see S&P Cuts Qwest and S&P Gives Qwest a B-).
“This should come as no surprise,” says Catherine Cosentino, S&P’s credit analyst, pointing out that S&P warned last month that it would downgrade the carrier if it went through with the debt exchange. “It’s an analytical assessment of the [conditions] of the exchange… The offer is for less than par.”
On Thursday, Cosentino said that the company had evaluated whether it should raise Qwest's rating due to its reduction in debt, but decided that a mere $1.9 billion would not change the company's capital structure, and did not warrant an additional notch.
Meanwhile, equity analysts were more upbeat. SoundView Technology Group upgraded the carrier’s stock to outperform.
Industry observers say the different responses to the debt exchange are only natural. For Qwest shareholders, who are worried that the carrier may be forced into bankruptcy if it doesn’t reduce its towering $24.5 billion debt load, debt reduction is a top priority. For bondholders, on the other hand, the dilutive effect of the debt exchange only shows how unlikely it is that they’ll get a full return on their investment. “They exchanged new lamps for old lamps,” says Craig Johnson, and independent analyst based in Oregon. “Obviously certain investors took it in the shorts.”
Although fewer than half of Qwest’s eligible bondholders opted to join in on the exchange, Cosentino says that the deal, which called for swapping old debt with new notes with lower principals and higher interest rates, creates less favorable terms for all the bondholders. This is because the $3.3 billion in new bonds have been created in Qwest Services Corp., which has liens on it, rather than in Qwest Capital Funding, which doesn't include any liens, Cosentino says.
But in some ways the company's prospects for survival look a lot brighter. The company has not only shaved $1.9 billion off its debt this week, it has also received federal approval to offer long distance services in nine of its 14 states (see Qwest Gets LD Approval in 9 States). And although Qwest’s stock has lost some of its value since the S&P downgrade, at $5.34 a share it is still trading above its opening price of $5.27 a share before the debt exchange announcement on Monday.
"When Qwest was trading at $1.20, who would have thought it would have been the investment… of a lifetime,” says Network Conceptions LLC analyst Phil Jacobson.
According to SoundView Technology, which upgraded Qwest’s stock to outperform from neutral on Tuesday, the company’s share price should reach $8 in the next 12 months.
— Eugénie Larson, Reporter, Light Reading