Standard & Poor's (S&P) has completed its review of South Canterbury Finance (SCF) and left its rating at BBB- but put it on CreditWatch negative.
A BBB- is the lowest rating on the investment grade status and any downgrade would have significant implications for the company.
A CreditWatch negative status means that the rating could change and any change would be in a downward direction.
S&P says the negative listing implies a "one-in-two chance" of a rating downgrade in the next three months.
The ratings agency says its rating action follows SCF's announcement of a loss of $37 million and because of "a material provisioning expense of $58 million."
"The CreditWatch action reflects our view that there is now an increased risk that some of the non-performing assets could translate into lending losses ultimately," S&P credit analyst Derryl D'silva says.
SCF's decision to shift its holdings of liquid assets from cash to higher risk and high-yield investments has increased the risk profile of the company and weakened its liquidity.
"The investments have also resulted in an increase in related-party exposures, which have moderated SCF's capitalisation, and are a weakness at the 'BBB-' rating level."
Additionally, an existing rating trigger on SCF's US$100 million private-placement facility compounds the liquidity concerns.
"The trigger specifies that if the rating on SCF were lowered to below 'BBB-', funding providers may review or withdraw their funding support for SCF. Such a downgrade would likely exacerbate the consequent negative rating momentum, whereby a small negative ratings movement could magnify significantly because of liquidity difficulties that may emerge."
Positive factors for the company include SCF's sound business profile and geographic diversity, which underpin the company's market position as one of the largest domestically owned finance companies in New Zealand.
"The 'BBB-' rating is supported by our expectation that SCF's primary shareholder, Allan Hubbard, will remain steadfast in his ability and willingness to support SCF if required."
Hubbard injected $40 million in capital into the company last week to absorb the impact of the increased credit costs.
"At the same time, he plans to have a legal underwriting agreement (which is yet to be executed) that is expected to stand as security for any further specific loans that could become impaired."
D'silva said the ratings may be lowered by one or more notches should SCF fail to address pressures concerning its liquidity and its weaker capital adequacy position stemming from related-party exposures and rising credit costs.
" In addition, the ratings may be removed from CreditWatch if SCF's underwriting agreement with its major shareholder were successfully executed, and if SCF reduced or eliminated its related-party exposures such that it decreases the pressure on its capitalisation level."
SCF chief executive Lachie McLeod says being placed on negative credit watch is "a precautionary move in the current recessionary climate and was not unexpected following the decision to quarantine and provide for at risk and non-performing assets in the year to 30 June 2009.
“The underwrite guarantee to be shortly completed by our shareholder will reinforce the strength of the group and should see its investment grade rating retained.
“Our intention to introduce new equity within the next six months, as announced last week with the profit guidance for the 2009 financial year, should provide further assurance for investors, and S&P, that the group remains in sound financial health.”
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