If home depot maintains historic turnover rates

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ts payable and inventory. If Home Depot maintains historic turnover rates, suppliers can determine when they can expect -=.~ t. This will help them gauge the risk associated with extending credit to Home Depot. nders are interested in the borrower's ability to repay debt over a longer term. For example, in September 2010, Home issued $1 billion of Senior Notes, half due in 2020 and the other half due in 2040. Because these notes are long-term, ---"- investors are concerned with longer-term solvency and cash flow. In addition, these potential investors likely analyzed Depot's expansion plans with a view to understanding whether the company would have sufficient cash to expand and the notes. Several "third parties" are interested in analyzing Home Depot's creditworthiness as well. In particular, credit-rating agen- assess companies' credit risk to determine bond and issuer ratings. These agencies, including S&P, Moody's, and Fitch (continued on next page) 4-2
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(continued from previous page) Ratings, do not have money at risk, but the accuracy of their ratings affects their corporate reputations. Thus, they are interested in correctly assessing companies' credit risk. In early 2011, the three agencies' ratings of Home Depot were BBB+, A3, and BBB+, respectively. S&P's rating reflects Home Depot's strength ("substantial U.S. store footprint and recognized name, cost reductions initiatives that have limited profit erosion through the economic downturn, and meaningful free cash flow generating ability") as well as its risk factors ("the weak state of the U.S. housing market" and "weak intermediate financial risk profile ... and our expectation that leverage will increase"). We explain the various types of analyses that contribute to an evaluation of a company's credit quality in this module. Sources: Home Depot Annual Report and 10-K Filing; Moodys.com/research; StandardAndPoors.com/ratingsdirect. Os ::DO Credit Risk Analysis and Interpretation C)c >c: Zr- r Credit Ratings -m Market for Credit Credit Risk Analysis N > -I I •• Demand for Credit •• Risk Analysis •• Why Companies Care 0 I" Supply of Credit •• Chance of Default •• How Ratings are •• Loss Given Default Determined Z 1 Predicting Bankruptcy Risk •• Altman Z-Score •• Bankruptcy Prediction Errors The key to understanding credit risk is to first understand that credit is similar to other com- modities-there is a demand for credit and a supply of credit. Firms demand credit for operating, investing and financing activities and numerous parties are willing to meet that demand includ- ing creditors, banks, public debt investors, and other private lenders. Each of these parties is concerned with repayment and, thus, must analyze the borrower's creditworthiness. Such analy- sis follows much of the same model as equity analysis, but the focus is a bit different. While equity investors are concerned with profitability and earning a return, debt investors have far less opportunity for upside. That is, debt investors' maximum return is determined by the interest rate set in the "loan" as well as the prevailing market rate of interest.
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