Best Buy has drawn $1.25 billion, the entirety of a five-year revolving loan. Graco has tapped half of a $500 million credit facility. And Sleep Number has drawn the remainder of a $450 million loan.
The moves by these Minnesota companies and others across the country help secure cash flow during an increasingly volatile economy caused by the coronavirus pandemic.
More than 300 companies have tapped revolving lines of credit since March 5, including 34 public companies since March 30, according to LCD, a unit of S&P Global Market Intelligence. Those 34 companies had a credit capacity of $23.8 billion and have drawn down $15.3 billion.
It’s no wonder companies are taking action. With conditions changing daily, more each day also are withdrawing financial guidance for the year. They also are tightening expenses, some by laying off or furloughing workers, others by putting off capital expenditures, all with the goal of conserving cash.
Drawing on the credit lines helps toward that goal, for one because even companies that are healthy right now might not meet the covenants in their debt agreements if the economy continues to dive, said Tony Brausen, former chief financial officer of Mosaic Co. and an adjunct professor at St. Thomas’s Opus School of Business.
“The second would be if you are worried that the banks are just going to have frozen capital at the time you actually need it because the economy could be in such dire straits,” Brausen said.
Companies followed this same playbook, although in a more drawn-out time period, after the 2008 financial downturn. The credit draws helped contribute to the bank crisis.
Carlos Hernandez, the chairman of JPMorgan Chase’s investment banking business, recently told clients and colleagues that the economic shutdown caused by the pandemic could prompt the sort of brutal reckoning for corporate America that banks went through after the 2008 financial crisis, according to the New York Times.
Even if that does not prove to be the case, there is still a worry that cash would be harder to get if the economy is in a prolonged downturn when it was relatively easy to get over the last decade as interest rates declined.
Robert Albertson, chief strategist of the Financial Services Group at Piper Sandler & Co. in New York, said the draws on credit facilities so far have not seemed to stress the large banks. However, the eventual impact will depend on how long the economy is at a standstill. Albertson does see some emerging stresses in other categories, mainly in commercial real estate lending.
He said if he were running a company that had a revolver he would draw it down. “I’d draw it down for a while, you can always pay it back,” Albertson said.
Why not just keep more cash on the balance sheet? Brausen said many companies consider a revolving line of credit as part of their reserves, he calls the combination of cash and credit a “liquidity buffer.”
“Running with lean cash is fine, as long as you are comfortable with the rest of your liquidity buffer,” Brausen said. “There is nothing wrong with running that way, lean on cash, as long as you know you can get that cash when you need it.”
But in times like this, companies might want to change strategies.
David Callen, chief financial officer of Minneapolis-based Sleep Number, said a credit revolver is a regular part of Sleep Number’s financial structure and something they tap on a regular basis.
On March 17, though, the company made a deeper withdrawal of the $262 million remaining on a $450 million revolving credit facility.
“Pulling down the balance of the revolver just made sense given the disruption and uncertainty surrounding COVID-19,” Callen said.
Richfield-based Best Buy first accessed its five-year revolving loan until Feb. 1 and on March 19 tapped the entire $1.25 billion. It also suspended its share repurchase program as it adjusted to stay-at-home orders affecting retail companies.
On the same day in March, Minneapolis-based Graco borrowed $250 million, half of its available revolving credit line, “in order to increase its cash position and preserve financial flexibility in light of current uncertainty resulting from the COVID-19 pandemic. The proceeds from the borrowings will be available to be used for working capital, general corporate or other purposes.”
Earlier that week, Edina-based Regis Corp. had told its lenders it would access the remaining $183 million on a $295 million revolving credit facility.
While the billions borrowed in the past month is a huge amount, banks said they can handle it. Reforms after the 2008 financial crisis mean they have more liquidity and reserve requirements, with annual stress tests to make sure they are in compliance.
“The U.S. banking system is more robust and resilient than it was before the 2008 financial crisis, in large part due to significantly higher levels of capital and liquidity across the industry,” U.S. Bank said in a statement. “U.S. Bank has a strong balance sheet that is well capitalized and high levels of liquidity. We are ready to help our customers — consumers, small businesses and large businesses — during this difficult time.”
Albertson, of Piper Sandler, who works on banking mergers, points to data from the Federal Reserve that showed a huge jump in loans in the previous week, mainly commercial and industrial loans, but also a corresponding jump in deposits.
“It’s not natural loan demand. And its interesting they are getting more deposits than they are lending,” Albertson said.
It suggests that companies are setting aside the cash for now in deposit accounts. It is a relatively low-cost move for companies that are looking for a bit of assurance.
Tapping a credit line does come with some costs. Not every company is willing to take the additional interest expense at this time.
“You are paying an insurance premium to have that cash in the bank, Brausen explained. “The insurance premium is equal to the difference between the interest rate on what I’m paying on the debt and what I’m earning by putting it back in the bank, which is close to nothing.”
Not all companies are withdrawing their revolvers because other corporate actions are helping the liquidity buffer. Winnebago Industries, which has management offices in Eden Prairie, has a $193 million asset-based loan facility it could tap beyond the $123 million in cash it had when its second quarter ended Feb. 29.
Executives at Winnebago, which has temporarily suspended manufacturing operations, were asked on a quarterly conference call March 25 why the company hasn’t tapped its credit line.
“We’ve evaluated our position and feel that it’s prudent to not incur that additional cost of that financing at this time,” Bryan Hughes, Winnebago’s chief financial officer, said.
The risk, of course, is that the money won’t be available later on the same terms.
Craig Mueller — a managing director at Golden Valley-based Oak Ridge Financial, which does mergers and acquisitions advisory work for banks — said companies are probably willing to renegotiate their loan covenants and pay a higher fee to do so if the economy makes their finances out of compliance with some covenants.
“But that takes time and that’s going to be an issue to get someone to take time to focus on this,” he said.