Consumer-Products Companies Cut Costs, but Woes Continue

Investment-grade consumer-products companies are better positioned to withstand the tough retail and housing environment than their speculative-grade counterparts

By Nicole Delz Lynch From Standard & Poor's RatingsDirect

As we enter the calendar fourth quarter, Standard & Poor's Ratings Services believes that the remainder of 2009 will constitute an ongoing challenge for most rated consumer-products companies. This will be especially true for issuers in the apparel, furniture, bedding, and appliance subsectors, since they have close ties to the retail environment and housing market, both of which remain weak.

We continue to believe ratings in the speculative-grade sector are more likely to suffer along with the weak economy. These companies tend to be smaller and highly leveraged, which results in less margin for error on operating shortfalls. Liquidity is a key rating concern for speculative-grade issuers, because many of these companies continue to have tight financial covenant cushions, making them more vulnerable to potential covenant violations.

As their higher ratings indicate, investment-grade companies should be better positioned to withstand the difficult operating environment. They're generally larger, more diversified, and benefit from purchasing and pricing power economies of scale. They generally also have stronger cash flows and more solid balance sheets, with easier and less costly access to the capital markets than their speculative-grade counterparts.

Downgrades Outnumber Upgrades

The U.S. consumer-products companies that Standard & Poor's rates include an array of subsectors, including packaged food, alcoholic and nonalcoholic beverages, tobacco, household products, apparel, personal care, appliances, lawn care, home and office furniture, agriproducts, commodity foods, cosmetics, and service companies. About 32% of companies in the sector are in the more stable investment-grade category, with the remaining 68% in the more volatile speculative-grade category.

In 2008, downgrades outnumbered upgrades in the sector by just over 3-to-1, but the balance has tipped so far this year, with a ratio of 5-to-1 as of Sept. 24, 2009. About 33% of issuers in the sector have either a negative outlook or are on CreditWatch with negative implications. Only about 9% of sector issuers have either a positive outlook or are on CreditWatch with positive implications.

Roughly 44% of all consumer-products issuers fell into the B category as of Sept. 24, vs. about 27% at the end of 2002. In fact, B has replaced B+ as the primary rating in the B category (which ranges from B- to B+) for consumer-products companies. Ratings for about 6% of the consumer-products companies we rate are lower than B-, about the same as at year-end 2007, and slightly less than 4% of all consumer-products companies that we rate are in the CCC category.

Companies Trading Down

So far in 2009, Standard & Poor's has lowered ratings on eight rated consumer companies to either D (default) or SD (selective default), and three of these eight companies (Merisant Worldwide, Spectrum Brands (SPEB), and Eurofresh) had filed for relief under Chapter 11 of the U.S. Bankruptcy Code. This represents twice as many changes to D or SD within the rated consumer sector as compared with those in the same period in 2008, when we lowered four rated consumer companies to D. Spectrum Brands (B-) emerged from bankruptcy on Aug. 28, and we assigned ratings on Sept. 16.

Many companies have taken steps to reduce costs and improve efficiencies during this recession, while some consumers have traded down to value brands and private label. Some companies have restructured their business, reduced headcount, and increased pricing, among other actions.

Commodity costs have abated to some extent from higher levels in 2008, but they're still higher than the historical levels. For example, the price of corn was about $3 per bushel as of Sept. 23, down from about $5 per bushel a year earlier, and still above 2006 monthly ranges of $2-$3 per bushel. Gasoline prices have been creeping up again, which may make it harder for consumers to spend their money on discretionary items. Oil is currently hovering around $70 per barrel, up from about $50 per barrel earlier this year, yet still down considerably from its July 2008 spike to close to $147 per barrel. We believe the additional dollars spent at the pump will likely have to come out of their budgets for other discretionary spending. Traffic at retail outlets is down, resulting in continued softness in sales for apparel, durable goods, and other discretionary consumer goods.

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