Gimme Credit: WorldCom blow to investors bodes ill for capital markets

By Ronda Fears

Nashville, Tenn., June 27 - While an impending WorldCom bankruptcy would be harmful to bondholders and its banks, Kathy Shanley, senior bond analyst at Gimme Credit, said the psychological blow to investors may be most damaging to the capital markets.

"Bondholders, not banks, are the big losers on WorldCom debt, as bank loans spread across a large lending group account for a small percentage of total debt," Shanley said.

With bankruptcy apparently around the corner, attention turned to speculation about who has the biggest WorldCom exposure. There was mostly silence from major U.S. lenders, although JPMorgan Chase and Citigroup disclosed credit losses would not be material.

"The cost of future business lost as disillusioned buyers of syndicated loans and corporate bonds pull back to lick their wounds is harder to quantify, but may ultimately be more damaging," Shanley said.

"We are not optimistic about the prospects for a rapid turnaround in activity in the capital markets."

WorldCom's bank facilities consist of a $2.65 billion 364-day revolving credit line that the company opted to draw down in order to protect its one-year conversion option during bank negotiations.

It has two other undrawn credit lines - a $1.6 billion revolving facility expiring in 2006, and a $3.75 billion facility expiring on June 30, 2002. There is also a $1.5 billion facility for the company's receivables purchase program.

It appears likely the fraud disclosures are sufficiently grave to trigger an event of default under WorldCom's bank line, Shanley said. And a default under the credit agreement automatically triggers a termination event under the receivables purchase agreement.

"We can't be certain WorldCom won't figure out a way to tap its remaining bank lines, but we note that Mellon issued a press release yesterday saying it does not expect any of its undrawn exposure on the $3.75 billion facility to be drawn prior to the expiration date," Shanley said.

"Bank of America and J.P. Morgan Chase are administrative agents on the $2.65 billion credit line. We counted 26 participants in the latest amendment to the 364-day facility, dated June 2001."

Only five are U.S.-based banks, she said, including Bank One, Citibank, Fleet, Wells Fargo and Mellon.

Mellon says it has $100 million outstanding under the $2.65 billion credit line.

Citigroup admits to "negligible" credit losses, but $375 million in total exposure, primarily bonds held by its insurance units.

Among Canadian banks, only The Bank of Nova Scotia participates in the facility.

Royal Bank didn't comment on its WorldCom exposure, but says it remains comfortable with its loss provision projections.

CIBC said it has no loan exposure and Toronto-Dominion said its exposure isn't material. TD separately disclosed it has $222 million in exposure to the Adelphia Group.

"Between secondary trading and the availability of credit default swaps, we can't tell who is holding what, and we don't know how much corporate debt or derivatives exposure banks may be holding in their securities operations," Shanley said.

"Overall, though, it appears credit exposure for the major U.S. banks will be manageable. Even if the immediate damage to bank balance sheets is muted, we wouldn't downplay the second order risks."

Citigroup and J.P. Morgan Chase are already under fire for acting as enablers for Enron's partnership arrangements, she noted.

"Jaded though we are, we are dismayed by the evidence of fraud at WorldCom as it further undermines the credibility of U.S. financial statements," Shanley said.

"Who can blame foreign investors for figuring that maybe the differences between emerging market economies and the U.S. market are not as big as had been advertised?"

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