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Credit FAQ: More Asia-Pacific Angels Risk Slipping Into Speculative Grade

Chart 1


More Asia-Pacific issuers are set to topple out of investment grade. Slowing global GDP growth and the prospect of a recession in the key export markets of the U.S. and Europe will likely hit the 2023 revenues across a swath of regional entities. Many firms continue to spend heavily in the face of macro strains, despite the possibility this may trigger downgrades. S&P Global Ratings expects that as many as 26 issuers with about US$210 billion of reported debt could become speculative grade--or potential fallen angels--over the next 12 months.

This represents a significant change in stress factors. When we last wrote about fallen-angel risk, COVID pressures were primarily driving firms out of investment grade (see "More Asian 'BBB' Angels To Fall In 2021," published Feb. 8, 2021). Over the next 12 months, only one firm is at risk of losing its investment-grade status primarily due to pandemic factors.

Investors frequently ask us about the state of the speculative-grade market in China, particularly for property names. This FAQ steers thinking toward another significant trend in Asia-Pacific: the potential for firms to exit investment grade.

A note on terminology. We define fallen angels as issuers rated 'BB+' and below that were downgraded from investment grade (rated 'BBB-' and above). We define potential fallen angels as issuers rated 'BBB-' with either a negative outlook or on CreditWatch with negative implications.

Chart 2


Frequently Asked Questions

What's the downside risk of 'BBB' rated issuers in Asia-Pacific heading in 2023?

High. While speculative-grade companies were subject to most of the rating activity in Asia-Pacific over the past 12 months, there is meaningful downside risk for 'BBB' rated issuers as well.

Between 13% and 16% of rated companies in the BBB category have been on negative outlook since Sept. 1, 2021, indicating at least a one-in-three likelihood of a lower rating within the next two years. This is largely due to three reasons:

  • A slower and narrower earnings recovery in Asia-Pacific compared with Europe or the U.S. COVID-19 waves have hit the region later, and China's zero-COVID policy has disrupted production and domestic consumption.
  • Still aggressive growth aspirations. We anticipate rising capital expenditure (capex) in 2022 over 2021 for 68% of the 'BBB' rated companies. And another 63% of companies are further stepping up capital spending in 2023 over 2022 levels in our projections, by an average of 12%.
  • Significant cash burn and rising debt in 2021. Net debt at rated 'BBB' companies regionally increased by an average of 15% in 2021 amid the slow recovery, and continued spending and shareholder distributions.

The decline in the negative bias in the first three quarters of 2021 (from a near decade high of 26% to about 15%) was largely due to rating downgrades rather than a stabilizing credit profile at the same rating level.

The situation in Asia-Pacific contrasts with the moderating risk seen for Europe and U.S.-rated 'BBB' companies (see chart 3), which have seen downside risk to 'BBB' rated corporates reduce faster over the past 12 months. That's despite central banks' aggressive tightening of monetary policy, energy shocks from the ongoing Russia-Ukraine war, and heightened inflation and recession risk. Year-to-date, rising stars in the U.S. and Europe outnumber fallen angels.

Still, rating trends there are likely reaching an inflection point where negative rating actions will outweigh positive actions without a clear path for an upside surprise.

In our base case, we estimate that debt of downgraded nonfinancial corporate fallen angels in the U.S. and EMEA (Europe, Middle East, and Africa) could reach nearly US$110 billion over the next 12 months for nonfinancial corporates. This would be an 11% increase in fallen-angel debt from US$98 billion over the 12 months through to June 30, 2022.

In this estimate, fallen-angel downgrades would affect 2% of 'BBB' debt (see "Credit Trends: 'BBB' Pulse: Downside Risks Remain," Aug. 17, 2022). This estimate is based on the amount of rated debt instruments that are associated with the issuers, rather than the reported debt figure (which can also include unrated debt).

Chart 3


In a downside scenario that we describe in "Global Credit Conditions Q3 2022: Resurfacing Credit Headwinds," published June 30, 2022, we estimate that fallen-angel downgrades would rise to US$122 billion (3.4% of 'BBB' debt) in the U.S. and to US$54.5 billion (2.7% of 'BBB' debt) in EMEA.

Under this scenario, economic activity would slow sharply in the second half of this year and into 2023 for both the U.S. and eurozone. U.S. GDP would contract 0.6% in 2023, while unemployment would stay elevated and reach 7.2% by late 2024. In the eurozone, the energy market disruption and the recession in the U.S. would bring GDP growth down to 1.0% in 2023, about half that of our baseline economic forecast. We view this scenario as having a roughly one-in-three likelihood of occurring.

Which sectors are more exposed to downside risk?

Companies in the capital goods and automotive, refining and chemicals, real estate, power, and consumer-related sectors. Among our 'BBB' rated universe, these entities are the most exposed to credit deterioration (chart 4). That's generally due to slowing domestic and export demand, reduced revenue and profit outlook (capital goods and automotive), cost inflation (refining and chemicals, consumer products, and power), and sustained capital spending (power, refining and chemicals, and technology).

The credit outlook of 'BBB' rated companies in the commodity and infrastructure sectors stand out as largely stable heading into 2023. High profits and measured capital spending beefed up the balance sheets of commodities firms, especially oil and gas producers, over the past 12 months.

These windfalls provide substantial headroom against recent commodity price declines and likely price volatility ahead as the global economy slows. Recovering mobility and the pick-up in global trade is supporting revenue and profit growth for most rated transport infrastructure companies in the region.

Chart 4


Are more corporate angels likely to fall in Asia-Pacific over the next 12 months?

Yes. Fallen-angel risk is crystalizing amid slowing revenue, rising leverage, and sustained spending. We have a negative outlook on 14 (one in five) companies rated 'BBB-'. These 14 issuers had about US$150 billion in aggregated reported debt (about US$21 billion in rated debt) and limited rating headroom. They could become fallen angels in the next 12 months (table 1).

Table 1

Nonfinancial Potential Fallen Angels In Asia-Pacific
Ratings as of Aug. 23, 2022 Primary location of operations Sector Total reported debt (bil. US$)*

Beijing Capital Group Co. Ltd.

China Real estate 30.9


Korea Retailing / restaurants 5.6

EnergyAustralia Holdings Ltd.

Australia Power 1.1

Jinjiang International Holding Co. Ltd.

China Hospitality 7.9

Li & Fung Ltd.

China Logistics 1.3


China Consumer 8.5

Nexteer Automotive Group Ltd.

China Automobile equipment 0.1


India Power 3.4

Nissan Motor Co. Ltd.

Japan Automobile 57.6

SK E&S Co. Ltd.

Korea Power 4.4

SK Geo Centric Co. Ltd.

Korea Chemicals 1.8

SK Innovation Co. Ltd.

Korea Chemicals 13.3

Semiconductor Manufacturing International Corp.

China Technology 6.6

Yuexiu Real Estate Investment Trust

China Real estate 2.8
*Total reported debt includes gross financial debt, reported by the company as of the last fiscal year converted in U.S. dollars. Source: S&P Global Ratings calculations from company financials.

The number is lower compared with the 24 potential fallen angels a year ago. But it predominantly reflects rating downgrades or withdrawals rather than a broad-based stabilization in credit profile. Over the past 12 months:

  • We lowered the ratings on six companies to speculative-grade, generally because of lower profit prospects or higher capital spending: Toyo Corp., Rakuten Group Inc., UPL Corp. Ltd., Resorts World Las Vegas LLC, Genting New York LLC, and Xinjiang Goldwind Science & Technology Co. Ltd. The ratings on the latter were then withdrawn at the issuer's request.
  • We affirmed our 'BBB-' rating with a stable outlook on five companies, generally because of profit recovery and improving leverage: China Jinmao Holdings Group Ltd., Yuexiu Transport Infrastructure Ltd., Bharti Airtel Ltd., CAS Holding No.1 Ltd., and Renesas Electronics Corp.
  • We withdrew the 'BBB-' rating on PT Pelabuhan Indonesia III (Persero) and Beijing Haidian State-Owned Asset Investment Group Co. Ltd. with negative outlook.

While still higher than pre-COVID, the downside credit risk has declined at the 'BBB+' and 'BBB' rating levels, with a high single-digit share of companies on negative outlook, two to three times lower than at the beginning of 2021. Infrastructure entities have stabilized amid recovering mobility, including at five rated Pacific airports (see "Australian and New Zealand Airports Plot A Cautious Path To Recovery," Aug. 2, 2022). This has been a significant contributor to the improved statistics at the 'BBB' and 'BBB+' rating levels since the beginning of the year.

Chart 5


What are the main potential triggers for downgrades to speculative grade in Asia-Pacific?

Declining revenue and profit, combined with continued heavy spending. COVID factors are now far less likely to tip an entity out of investment grade. While the pandemic was directly responsible for about half of issuers facing fallen-angel risk a year ago, nearly all 14 companies are now facing fallen-angel risk because:

  • Slowing revenue and profit growth; or
  • Company-specific factors, especially appetite for expansion.

Both these factors are likely to persist over the next 12-18 months even as consequences of the pandemic take a back seat (see table 2).

Table 2


Slowing demand and rising costs.  These two factors account for more than half of potential fallen angels. The drivers behind slowing earnings can be domestic, international, or government-policy related.

Domestic demand slowdown in China due to the challenging real estate environment is dampening earnings recovery prospects at developer Beijing Capital Group Co. Ltd., while strict domestic social-distancing measures in the first half of 2022 is slowing earnings recovery at hotel, travel, and logistics operator Jinjiang International Holding Co. Ltd. Both these companies are highly leveraged, with the ratio of debt to EBITDA exceeding 10x. This is partly the result of COVID-triggered slowdowns, and partly from a legacy of aggressive expansion.

Rising investments or corporate initiatives.  Nearly half of 'BBB-' entities on negative outlook in Asia-Pacific are at risk of slipping to speculative grade due to discretionary spending choices. These are: Korean retailer E-MART Inc., chemical and electric vehicle battery producer SK Innovation Co. Ltd., Indian power company NHPC Ltd., Chinese technology Semiconductor Manufacturing International Corp., power company SK E&S Co. Ltd. and China's Yuexiu Real Estate Investment Trust.

Persistent investments are also taking place either at or near a cyclical high for the industry (SK Innovation and SK E&S) or amid margin compression, slow revenue growth or increasing competition (for Meituan, Semiconductor Manufacturing and EnergyAustralia Holdings Ltd.)

For Li & Fung Ltd., the fallen-angel risk will be determined by its corporate structure, the potential divestment of its logistics unit and its implications for the company's scale, diversification, and balance sheet.

How are supply-chain outages compounding weaker sales prospects, margins or high capex?

This is an important factor for some. Local coal shortages at EnergyAustralia are exposing the company to high wholesale prices, compressing its earnings prospects and leverage. Supply-chain disruptions and cost inflation could dampen earnings at auto supplier Nexteer Automotive Group Ltd. and Nissan Motor Co. Ltd., exacerbating global downside risks to demand.

Uncertainties over U.S. export policies on semiconductor technology and license approval for suppliers is another supply-related watchpoint for Semiconductor Manufacturing. Such restrictions could hamper its plans for advanced process nodes and worsen its technology gap with competitors.

How might an economic downturn hit other companies rated 'BBB-'?

Widely. Weakening revenue and profits are hitting issuers beyond the current 14 potential fallen angels. Credit metrics have eroded over the past six months for an increasing number of issuers rated 'BBB-' with a stable outlook.

Table 3

For Those Rated BBB-/Stable, It's A Case Of Three Buckets
Limited headroom
These companies operate close to their downgrade triggers with limited headroom against weaker profits/cash flows or additional capital spending.
Moderate headroom
We estimate that companies in this category have sufficient ratio headroom to absorb a 15% to 20% decline in EBITDA over the next 12 months over 2021 levels, assuming no major change in capital spending or dividends and debt levels. These companies have good buffers thanks to either high profits in 2021 or cash preservation measures during the COVID period.
High headroom
These companies have built substantial rating headroom over the past two years, either because of abnormally high profits, significant debt reduction, or structurally low leverage. We estimate that these companies could weather EBITDA declines of up to 30%.
Source: S&P Global Ratings.

We classify the 47 rated issuers rated 'BBB-' with a stable outlook into three categories, depending on the financial headroom they have against their downside rating triggers (see table 4 for financial projections against financial ratio triggers). The classification also reflects the structural volatility in earnings of the sector.

Table 4


Twelve companies (about one-quarter) of firms rated 'BBB-' on stable outlook have lost rating headroom in the past six months. Including potential fallen angels, the companies in this category had about US$210 billion of reported gross debt, by our estimate.

For these 12 companies with limited headroom, the focal points are fairly similar to the ones we identified for potential fallen angels. Persistent capital spending and leverage considerations are a focus for nearly all companies (10 out of 12) while revenue and profit prospects are more of a focus for Chinese restaurant chain Haidilao International Holding Ltd. and gaming company SKYCITY Entertainment Group Ltd.

Table 5


Continued spending and a keen growth appetite illustrate how rapidly rating headroom can shrink. Following acquisitions in 2022, the debt-to-EBITDA ratios of China-based gold mining company Zijin Mining Group Co. Ltd. will increase to 2.7x-2.8x in 2023, in our projections, (versus our downgrade trigger of 3.0x). We had anticipated this ratio to be 2.1x-2.4x in 2023 at the beginning of 2022.

China-based chemical company Shanghai Huayi (Group) Co. (BBB/Stable/--) continues to expand at a time of moderating chemical spreads. This is likely to lead to a ratio of debt to EBITDA to 2.7x by 2023, compared with our 3.0x downside trigger and much higher than the 2.1x that we had anticipated at the beginning of 2022.

Rating pressure at Shanghai Huayi is likely to translate into downside risk at its Hong-Kong subsidiary Huayi Group (Hong Kong) Ltd. (BBB-/Stable/--).

Not all these firms will become fallen angels (or potential fallen angels for those rated 'BBB-' with a stable outlook). They likely can manage their capital structure and cash flow adequacy ratios to levels commensurate with investment-grade levels. But they face greater risk of slipping to speculative grade unless there is more earnings growth or financial discipline.

Editor: Jasper Moiseiwitsch

Digital designer: Evy Cheung, Halie Mustow

Related Research

This report does not constitute a rating action.

Primary Credit Analyst:Xavier Jean, Singapore + 65 6239 6346;
Secondary Contacts:Evan M Gunter, Montgomery + 1 (212) 438 6412;
Charles Chang, Hong Kong (852) 2533-3543;
Vincent R Conti, Singapore + 65 6216 1188;
Research Assistant:Chi yang Leong, Singapore

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