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Troubled Borrowers May Need New Round of Debt Exchanges

Many of the companies that relied on debt exchanges to buy themselves some breathing room last year still face problems and may need to do a second round of debt reduction, Moody’s Investors Service said in a new report on Tuesday.

About three quarters of those companies, including Harrah’s Entertainment and Freescale Semiconductor, have retained low credit ratings despite pulling off debt exchanges, in which they swapped out some of their debt for a smaller amount of cash or new debt.

The authors of the Moody’s report concluded that while there would be fewer debt exchanges in 2010, they expected to see more in a few years as maturities on corporate debt drew closer.

Nearly 100 companies turned to distressed debt exchanges in 2009, mostly in the first half of the year, as credit markets remained tightly closed following the financial crisis, the Moody’s analysts wrote. That helped push the default rate up to 13 percent for the year, since Moody’s considers such exchanges to constitute a default because creditors are receiving less than the full value of their holdings.

Some of the debt exchanges proved useful, none more so than than the Ford Motor Company’s nearly $10 billion debt exchange that helped put the carmaker on much more solid financial footing. Moody’s says it has since raised Ford’s credit rating several times.

“By dealing with near-term liquidity pressures, many firms bought themselves time to benefit from an economic recovery,” the Moody’s analysts wrote.

A high percentage of companies using debt exchanges were owned by private equity firms, including those taken private at the height of the leveraged buyout boom, like Harrah’s and Clear Channel Communications.

While pulling off the debt exchanges bought companies some time by lowering their total indebtedness or pushing back debt maturities, such transactions have not gotten fundamentally overleveraged companies out of trouble. About 75 percent of them carry a rating of Caa1 or below, well into junk debt territory.

Interestingly, companies owned by private equity firms tended to fare better after debt exchanges than the rest, according to the Moody’s analysts. But they still point to Harrah’s and Clear Channel as carrying “unsustainable” debt burdens over the intermediate term.

Moody’s concluded that with the much-feared “wall of maturities” approaching in 2012, many of those companies that turned to debt-exchanges last year would need to try those kinds of transactions again.