The Triple-A Rating: Going Extinct?

Now that General Electric has lost its prized AAA rating, just a handful of companies still maintain the top credit benchmark

By Ben Steverman

The AAA credit rating, the gold standard in corporate finance, isn't just an endangered species. "It's almost extinct at this point in Corporate America," says Nicholas Riccio, managing director of Standard & Poor's Ratings Service.

On Mar. 12, Standard & Poor's took the prized triple-A rating away from General Electric (GE). The move, from AAA to AA+—still at the upper echelon of corporate credit quality—was widely expected by fixed-income investors, who fretted for months over GE's exposure to bad debt through its GE Capital arm.

GE still holds its top Aaa rating from S&P's rival, Moody's Investors Service. But Moody's already put GE's rating under review for possible downgrade—a stance the ratings agency reiterated Feb. 27 even after GE cut its dividend to save the conglomerate $9 billion per year.

Just Five AAA Holders

The downgrade leaves just five U.S. nonfinancial companies with the top credit rating from S&P. The triple-A rating seems secure at ExxonMobil (XOM), Johnson & Johnson (JNJ), Automatic Data Processing (ADP), and Microsoft (MSFT). Pharmaceutical giant Pfizer (PFE) also holds a triple-A rating, but on Jan. 26 S&P put the rating on watch for a possible downgrade, after Pfizer said it would borrow $22.5 billion to buy rival Wyeth (WYE).

Difficult Criterion

"We have seen a thinning of the ranks in the last three decades," Riccio said in an interview with BusinessWeek, which like S&P is a unit of The McGraw-Hill Companies. At the end of 1994 14 companies had triple-A ratings. Go back far enough, and now-troubled companies such as General Motors (GM) and Ford (F) had perfect ratings.

Companies enter the triple-A elite only when ratings agencies determine they have, in Riccio's words, "extremely little risk of default" on their debt. Thus, investors feel comfortable lending to Microsoft or Johnson & Johnson at lower interest rates. That lowers the companies' financing costs.

But ask fixed-income experts about credit ratings, and you'll find a lot of skepticism. Sometimes credit investors simply don't trust a company's rating, especially after the credit shocks of the past year-and-a-half.

Based on the elevated yield spread of GE's bonds over risk-free Treasuries, "the market was telling you that GE was not a triple-A company several months ago," says James Barnes, fixed-income portfolio manager at National Penn Investors Trust Company.

Complaints About Ratings

Ward McCarthy, of Stone & McCarthy Research Associates, says rating agencies have missed major problems with corporate balance sheets, most notably the bad debt that led to enormous problems at insurer American International Group (AIG) last year. "The bottom line is that investors cannot rely on the ratings to anticipate when a company is going to have problems," McCarthy says. "There are a lot of dead soldiers that are former triple-A rated companies."

Amid a credit crisis and severe recession, Barnes doubts that it's possible for almost any company to meet triple-A's exacting standards of almost zero chance of default. "These days," he says, "it's hard to view any company and be comfortable taking that position."