Standard & Poor’s has downgraded troubled retailer J.C. Penney to CCC from CCC+. Apparently, all the talk about restructuring the company in advance of any Chapter 11 filing, which we discussed in posts on July 23, 2019, when restructuring advisors were first called in and again on August 14, when Bloomberg reported serious talk of a debt for equity swap was in the air.
Not helping Penney’s with S&P is that the retail background for bricks and mortar stores remains challenging, notwithstanding the operational advances management has made. S&P’s view was summed up as follows:
“The negative outlook on JCP reflects the growing risk of a distressed debt exchange or restructuring in the next 12 months as industry headwinds, weak same-store sales, and a burdensome debt load contribute to its unsustainable capital structure.
“We could lower our ratings on JCP if the company announces a debt exchange or restructuring or if its operating conditions worsen such that we see a restructuring as increasingly likely in the next six months.
“Before raising our rating on JCP, we would expect the company to demonstrate a significant and sustained improvement in its performance that leads us to view a distressed exchange as less likely.”
We have rated J.C. Penney CCR 4 on our 1-5 scale, aka on our Worry List, where we believe the chances of an ultimate loss are greater than that of full recovery. Thankfully from a BDC perspective although there are 4 BDCs with exposure (including three non-traded FS Investment-KKR Capital BDCs) total exposure is very modest at $6.8mn at cost. All the debt sits towards the top of the capital structure and the biggest discount to cost is only (8%) as of June 2019. We believe the actual loss will be more substantial if and when a debt for equity swap or Chapter 11 occurs, but either way the impact on BDC net asset value and income should be modest. That’s a statement that cannot be made about the many other lenders to J.C. Penney, whose borrowings are substantial.