Retail Credit rating downgrades - How to stop a downgrade becoming a default

COVID-19 disruption and resulting lockdown measures have particularly impacted some retailers.

For those hard-hit, signs of declining demand and profit erosion can cause concern for banks lending to them. Other factors such as missed debt payments and renegotiation of rents can affect corporate credit ratings, which could in turn impact retailers’ credit facilities.

Why does it matter?

Retailers typically use a range of external funding; from large syndicated facilities and bond programmes, to smaller revolving facilities and overdrafts. They may also use additional banking facilities such as invoice discounting, online payment facilities or guarantee facilities, or utilise derivatives for hedging. It is likely that these facilities were checked at the outset of the pandemic for financial covenants relating to turnover and profits and specific events of default linked to missed payments, store closures etc.

Retailers with existing facilities in place should be mindful of any “rating triggers”. Finance documents may include covenants obliging the retailer to maintain a credit rating above a certain threshold. In the event of a ratings downgrade, these covenants could be breached, giving a bank a right to take enforcement action against the retailer.

What action should you consider?

1. Know your Facility Agreement – Most covenant breaches will allow lenders to declare a default and to demand early repayment of loans and/or act as a draw-stop, blocking a borrower’s ability to draw funds under a facility. The specific types of covenant will vary, so it is important for retailers to examine their finance agreements and associated documentation and flag any triggers. Resolving any arising issues will depend on careful analysis of the specific wording in each relevant finance document.
2. Keep talking to your lenders – If you are facing a potential covenant breach, including a breach as a result of a credit downgrade, act promptly. It is more important than ever to maintain an open dialogue with your lender(s), to keep them updated on issues before they arise and assess any potential solutions. Lenders may require further information on the causes of any potential or future breach. If the cause can be linked to a temporary issue resulting from COVID-19, there may be more flexibility to remedy the breach before enforcement.

   Check your reporting obligations to lenders which may require you to notify lenders within a few days of any covenant breaches. Even where a grace period applies, a notice may still be required.

3. Apply for an amendment or waiver – If you know, or suspect, that a downgrade is likely, consider proactively contacting your lender(s). If the downgrade relates to COVID-19 issues, lenders may be willing to amend the relevant covenant or to grant a temporary waiver of any covenant breaches during the pandemic.