Kraft Heinz ranks among the largest US fallen angel issuers, given the company's nearly $30 billion of debt, but its move to high yield territory last week was due more to company-specific reasons than imminent systemic risk across US corporates, says Fitch Ratings.
The volume of US corporate low investment-grade debt has increased significantly since 2007 but absent a more protracted and severe downturn than in recent cycles issuer migration to non-investment grade is broadly likely to follow past patterns.
'BBB-' rated debt was 15% or roughly $590 billion of the $4 trillion investment-grade bond universe at YE 2019. In comparison, 'BBB-' rated debt was 13% or about $170 billion of the universe, which totalled $1.3 trillion at YE 2007. The amount of low investment-grade US bonds outstanding increased 245% since the last cyclical downturn.
Kraft Heinz's downgrade illustrates how limited cushion in credit metrics and the inability or unwillingness to adjust capital allocation to preserve credit quality can increase fallen angel risk for some issuers. The rating action reflected Fitch's view that Kraft Heinz's leverage will remain above 4.0x for a prolonged period due to ongoing EBITDA challenges and limited near-term debt reduction potential, given its decision to maintain an annual dividend of approximately $2 billion and uncertain timing around asset sales that could provide proceeds to pay down debt.
The operating environment for US packaged food is challenged due to changing consumer preferences and weak organic revenue growth. Kraft Heinz's $29 billion of bonds outstanding at YE 2019 represented over 50% of the $54 billion of outstanding 'BBB-' food, beverage and tobacco (FB&T) sector debt in the investment-grade bond universe. Constellation Brands and ConAgra Brands round out the top three largest 'BBB-' rated FB&T sector issuers with approximately $11 billion and $10 billion of bonds, respectively, in the investment-grade universe at YE 2019. Constellation raised its 2020 earnings outlook in January and Fitch's Rating Outlook for ConAgra is currently Stable.
Teva was another large fallen angel downgraded in 2017. Teva was facing significant operational stress at a time when it needed to reduce debt from the acquisition of Actavis' generic drug business. The company had more than $30 billion of debt. General Motors (GM) and Ford were both downgraded to 'BB+' from 'BBB-' in 2005. GM had more than $30 billion of automotive debt, while Ford had nearly $20 billion, both excluding their financial services operations, which were also downgraded at the same time. Both companies were eventually upgraded back to investment grade.
Fitch's 2019 report The Rise of 'BBB' Rated Corporate Debt (Examining the Risk of Fallen Angels in the Next Cyclical Downturn) cited that many low investment-grade issuers have good financial flexibility, given high dividend payouts and share buybacks, relative to current ratings. However, issuers' willingness to preserve credit metrics consistent with ratings is a wildcard, as seen with Kraft Heinz.
Related Research
Investment-Grade Bond Market Monitor ('BBB' Rated Volume on Pace for Record; IG Universe Surpasses $4 Trillion) (October 2019)
The Coming Storm: 'BBB' Corporates in a Potential Downturn (April 2019)
The Rise of 'BBB' Rated Corporate Debt (Examining the Risk of Fallen Angels in the Next Cyclical Downturn) (January 2019)
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Megan Neuburger, CFA
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Monica Aggarwal, CFA
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Caitlin Blalock
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Media Relations: Elizabeth Fogerty, New York, Tel: +1 212 908 0526, Email: elizabeth.fogerty@thefitchgroup.com
Additional information is available on www.fitchratings.com. The above article originally appeared as a post on the Fitch Wire credit market commentary page. The original article can be accessed at www.fitchratings.com. All opinions expressed are those of Fitch Ratings.
KRAFT HEINZ 
