gcc_pe_wl-d

Some of these entities were even rated investment grade not too long ago. Weakest links are
particularly vulnerable because they tend to have less tolerance for absorbing economic or market
stress. Relative to the entire corporate speculative-grade population, it is not a surprise that weakest
links would have a larger proportion of entities defaulting, particularly during periods of economic
stress. In the 2001-2002 cycle, for example, more than half of the weakest links defaulted within 12
months, and nearly 65% defaulted within three years (see chart). We expect to see the same trend in the
current cycle.
Corporate casualties in 2009 have already exceed the total in full-year 2008. Similar to the pattern
observed among weakest links, at least 79 of the 140 defaulters through May 28, 2009 (74 of the 126
defaulters in 2008) were involved in a private equity transaction (see table 3). Sponsors might offer
some stability to target companies with their deep pockets and knowledge and experience in managing
distressed companies. In fact, some companies may have even averted bankruptcy with the help of their
sponsors. However, some practices that private equity investors have adopted in recent years could also
have exacerbated the targets’ balance sheets, particularly if they underestimated the severity and
duration of the current economic and financial challenges. We forecast more than 200 defaults in the
U.S. in the next 12 months, and we expect private equity exposure to these casualties to remain
elevated. (For more details, see “U.S. Corporate Default Rate Forecasted To Reach 14.3% By March
2010%,” published April 24, 2009, on RatingsDirect.)
Private equity groups will continue to be drawn to higher-risk assets in search of better returns. The
decline of asset valuations on the heels of the economic recession has hurt private equity investors to a
certain extent. However, this may have also given sponsors a window of opportunity to further build up
and diversify their portfolios. The improved risk-reward potential of some entities with sound business
models make them that much more attractive targets.
Global Credit Comment: Exposure To Deteriorating Assets Increases Risks To Private Equity Page 3