S&P Removes Pershing Square from CreditWatch Negative as Valeant (VRX) Stabilizes

S&P Global Ratings today said it removed its ratings on Pershing Square Holdings Ltd. (PSH) from CreditWatch Negative, where they had been placed March 17, 2016. At the same time, S&P Global Ratings affirmed its 'BBB' long-term issuer credit rating and senior unsecured debt ratings on the company. The outlook is negative.

"The CreditWatch resolution reflects our view that, compared with mid-March this year, the slide in Valeant Pharmaceuticals International Inc.'s (NYSE: VRX) stock price, one of PSH's core holdings, has stabilized at a low level," said S&P Global Ratings credit analyst Daniel Koelsch. As a result, PSH's ratio of debt-to-total assets has moderately improved at 19.5% as of June 30, 2016, compared with more than 20% as of March 15 of this year.

The negative outlook reflects our view that PSH's ratio of debt-to-total assets of 19.5%, as of June 30, 2016, is still significantly higher compared with 12.9% in June 2015 when we assigned our initial ratings to the company. Also, we note that compared with June 2015, PSH has increased the use of derivatives for position taking. Therefore, there is an additional layer of leverage that is not reflected in the simple debt-to-total assets metric. We view that and any further material increase in leverage through derivatives as negative to the ratings.

We believe that a debt-to-total assets ratio of 15% or higher is inconsistent with a 'BBB' rating, if sustained. That said, our ratings on PSH incorporate our expectation that its highly concentrated portfolio could exhibit fairly high volatility in net asset value (NAV) and, consequently, volatile debt coverage metrics. We view these swings as ratings neutral for as long as we believe that they are short-term phenomena and that debt ratios will revert to historical levels (at the time of issuance, no higher than 15%) over the next 18-24 months and on a sustained basis and continue to be supported by strong levels of unrestricted cash.

The ratings on PSH reflect S&P Global Ratings' view of the company's strengths: a permanent capital structure, a liquid portfolio, very high cash levels, and low operational and product complexity.

These strengths are offset by some weaknesses, in our view. PSH maintains a highly concentrated portfolio of core holdings at any given time (approximately 12 names as of June 30, 2016). The company is exposed to headline risk (legal and operational risks) because of its activist investment strategy. We believe that there is key man risk due to Mr. Bill Ackman's important role in the company. Finally, we believe that any significant redemption activity in PSH's sister funds could hurt PSH's performance (but not its liquidity).

The negative outlook reflects the continued pressure on the company's leverage ratios caused by severe underperformance and, accordingly, substantial drops in NAV (compared with June 15, 2015). As a result, the ratio of debt-to-total assets stands now at 19.5%, compared with 12.9% in June 2015.

We see a one-in-three probability that we could downgrade PSH if we believe that the company will be unable to reestablish a leverage ratio (as defined above) consistent with historical levels (at the time of issuance, no higher than 15%) over the next 18-24 months and on a sustained basis. We could also lower the ratings if the company increases materially leverage through increased derivatives positions (while keeping the ratio of debt-to-total assets constant) or if the cash position falls significantly from the current satisfactory levels.

We could revise the outlook to stable if there is sufficient evidence that the decrease in NAV and weaker leverage metrics are temporary.

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