Falling prices crimp credit for many companies

NEW YORK (Reuters) - Just as some credit markets begin to heal, fresh threats are gathering in little-noticed arenas where a host of U.S. companies pledge assets to secure business loans.

As prices on everything from oil to aluminum collapse, credit strains are growing on loans that are backed by those assets or other inventory and equipment. As a result, lenders are cutting the size of loans, tightening terms or raising rates.

"This is one of those subtle ways that credit is being contracted," said Adam Cohen, founder of Covenant Review, a research firm in New York. "It's a problem at large, medium and small companies ... Mom and Pop operations and on up through the whole economy."

Aleris International, a Beachwood, Ohio-based aluminum producer, had a revolving credit line for up to $844 million, but the actual amount available was tied to accounts receivable and its aluminum inventory.

After aluminum prices plunged, Aleris filed for bankruptcy protection on February 12, saying the unprecedented price slump had limited its borrowing ability.

Aleris is not alone. Many junk-rated companies with revolving credit lines are likely limited somewhat in how much they can borrow by the value of their inventories or other measures, said Cohen.

RATINGS AT RISK

Ratings of a number of high-yield exploration and production companies in the oil and gas sector are at risk because a plunge in oil prices is hurting their ability to borrow, according to Moody's Investors Service.

In the aluminum sector, Moody's recently downgraded the liquidity rating on Novelis Inc and warned Noranda Aluminum Holding Corp of a possible rating cut because they had less credit available on revolving loans as aluminum prices fell.

"There's uncertainty regarding the value of collateral backing a host of high-yield company loans," said Moody's chief economist John Lonski.

The amount of loans backed by assets has mushroomed as the troubled economy reined in traditional lending sources. Issuance of asset-based loans grew to more than $76 billion in 2007 from about $51 billion in 2004, according to data from Thomson Reuters Loan Pricing Corp.

But asset-based issuance contracted sharply in 2008 to just $42 billion as lender balance sheets became more constrained and buyouts evaporated, reducing the need for loans.

It is not just the asset-based loan market where price deflation is beginning to bite. Many revolving credit lines for high-yield companies can be affected by falling prices.

"This is becoming a very broad problem," Cohen said. "There are mid-sized companies across the country that have revolving credit facilities based on some kind of borrowing base," he said, referring to formulas that limit the amount loaned based on pledged collateral.

NET WORTH A GROWING CONCERN

Companies can also run afoul of covenants, or borrowing agreements, if asset write-downs cause their net worth to tumble. Covenant violations can give lenders the right to demand immediate repayment of loans, raise interest rates or put more controls on the kinds of things a company can do.

A number of home builders last year sought covenant waivers after the value of their land holdings fell, triggering write-downs and a decline in their net worth.

Stanley Martin, a private home builder in the Washington D.C. area, has fared better than larger public companies in the tough housing market, but its strong sales are overshadowed by limited borrowing capacity and covenant issues, according to Standard & Poor's. S&P downgraded the company's rating to "CCC-plus" from "B" last July, citing fears it would violate its net worth covenant.

"Companies that are about to breach covenants or did breach their covenants have to renegotiate with lenders, and lenders sort of take a pound of flesh for that activity," Cohen said.

As long as prices continue to fall, credit may remain tighter than it would otherwise be, said Lonski of Moody's Investors Service.

"Bankers have been stung once badly enough by deflation with residential real estate, so it stands to reason that they're going to be much more cautious when assessing the value of a loan's collateral," Lonski said.

(Editing by Kenneth Barry)