Credit Ratings

[Roadmap2Retire]

Credit ratings of companies are something that I was thinking about, a few weeks/months ago. But I didnt really follow up much with research. DividendLife had a nice post summarizing the credit ratings - and the pain that one has to go through to compile it for a list of companies considering the different rating agencies and each has its own signup process etc. Theres no one central repository listing all.

DividendLife has gone through the pain and compiled the list for his portfolio. Worth a look.
http://dividendlife.com/index.php/divide...t-ratings/

I came across this article from Forbes which is 3 years old, which shows that there are only four companies with AAA rating (MSFT, JNJ, XOM and ADP). I think ADP has dropped down to AA+ since then..so, only three remain.

More importantly: What are your thoughts on the credit ratings of the companies? Apart from borrowing costs, how does credit rating affect a companies financials?

[rapidacid]

I think for the type of companies you & I & the rest of the forum are looking at it's borderline irrelevant.

If I'm looking at the Dividend Champions list I'm probably not even taking their rating into consideration. Maybe that's poor due diligence but if a company has increased dividends for 25+ years and the metrics that got me looking at them in the first place look good, then a credit rating isn't going to sway me.

stockrover displays ( I believe ) the Morningstar ratings, and I'll glance at it, but really only raise an eyebrow if I see a D or an F in there and then I'll look further

[Dividend Watcher]

I think part of the confusion is comparing two different metrics; credit rating and "quality" rating. Credit rating is more like the FICO score for us consumers and is used to benchmark what interest rates can be expected on borrowed money. A quality rating, by whomever is doing the rating, appears to be more a measure of the company's ability to continue operating in good times and bad without drastic measures needed to keep the business going.

I primarily use the S&P Quality rank that is available on their tearsheets I get from my broker's web site. It is not a big part of my decision process when selecting a company to purchase or hold although having a rating in the A's does give me some peace of mind. However, if the company is not part of the S&P 500 index, S&P doesn't supply a quality rating as best as I can tell. Morningstar and Value Line have their own ratings of quality which sometimes can fill in for omissions of the S&P listings.

S&P explains their rating system as ...

Quote:The Quality Rankings System attempts to capture the growth and stability of earnings and the dividends record with a single rank. The rankings are generated by a computerized system and are based on per-share earnings and dividends records of the most recent 10 years. Basic scores are computed for earnings and dividends and, then, adjusted by a set of predetermined modifiers for changes in the rate of growth, stability within long-term trends and cyclicality. Adjusted scores for earnings and dividends are then combined to yield a final ranking.

I presume Morningstar and Value Line are using similar methodology and I presume some of the adjusting factors are the industry the business is in with their own unique factors in relation to the business cycle.

An interesting article about quality from the Benefits & Pensions Monitor magazine is available here.

I much prefer looking at the financial information myself over longer periods of time (7-10 years); current ratio, debt/equity, LT debt/equity, interest coverage, as well as the cash flow statements. But again, you need to see what the company has done in the past as well as it's competitors for some context.

For example, GIS has operated with a current ratio ranging from 0.5 to 1.1 over the last 10 years as has CLX. PG has hovered at slightly under 1.0 the entire time. GIS has had a LT Debt/Equity of around 1.0 over the same time period whilst CLX was running at around 10.0. Yet all of them have been paying dividends for a long time and still keep chugging along. S&P rates PG as A+ and GIS & CLX as an A. Yes, I'd prefer a better discount purchasing CLX than GIS or PG just from my own judgements but I wouldn't rule it out.

As to credit ratings, I'm less concerned about them than the quality rating of investment analysts/advisors. As I said, they can and do affect rates at which the company can borrow money from financial institutions. However, this doesn't imply that a bond issuance would end up at the same rates nor does it speak to the prospects of the business' operation performance in the future.

Standard & Poors has this to say about credit ratings:

Quote:Are Credit Ratings indicators of investment merit?

While investors may use credit ratings in making investment decisions, Standard & Poor's ratings are NOT indications of investment merit. In other words, the ratings are not buy, sell, or hold recommendations, or a measure of asset value. Nor are they intended to signal the suitability of an investment. They speak to one aspect of an investment decision—credit quality—which in some cases, may include our view of what investors can expect to recover in the event of default.

In evaluating an investment, investors should consider, in addition to credit quality, the current make-up of their portfolios, their investment strategy and time horizon, their tolerance for risk, and an estimation of the security's relative value in comparison to other securities they might choose. By way of analogy, while reputation for dependability may be an important consideration in buying a car, it is not the sole criterion on which drivers normally base their purchase decisions.

All that being said, once you get away from the Dividend Aristocrats and the CCC list, maybe it would be prudent to pay more attention to the quality rating. However, for the most part, what we are concerned with on this forum or the dividend growth concept in general, rapidacid has already said it:

(11-12-2014, 03:10 PM)rapidacid Wrote: I think for the type of companies you & I & the rest of the forum are looking at it's borderline irrelevant.

[Roadmap2Retire]

Thanks for the input, DW. The quality rating is something that I havent really paid attention to, in the past. And these articles starting my wheels turning - on wondering if its something that I need to be paying close attention to. Good to know where other DGIs stand.
Ive always dove into the books myself and looked at 10-yr financials and researched teh companies to the best of my ability before making an investment.

Thanks for the detailed post. Appreciate it.

R2R