Another day, another blistering loss for Tyco ( TYC) shareholders. Shares of the Bermuda-based conglomerate fell another 23% Tuesday -- they're now down around 60% this year -- while yields on its bonds rose to levels normally associated with junk bonds. Contributing to Tuesday's slide was word that Fitch put the debt of Tyco's financial services subsidiary, Tyco Capital, on review. (It subsequently downgraded the unit after the close of trading.) Fitch and Standard & Poor's have recently cut their ratings on Tyco debt while maintaining an investment grade. And despite Tyco's efforts to extinguish the fire that's now hungrily consuming its shares -- Tyco Capital said after the close that it would draw down an $8.5 billion bank credit line to buy back its short-term debt, known as commercial paper -- there's no way of knowing when Enron-traumatized investors might draw the line on the selling. In fact, it sometimes appears as if the company's efforts to reassure investors -- such as the CP buyback -- have the exact opposite effect. "It's more of a question of investor confidence," says Bob Basel, director of listed trading at Salomon Smith Barney. "People just don't have the confidence that it's a company they want to be with."
It's not that Wall Street is uniformly against Tyco. Indeed, even as Legg Mason analyst Barry Bannister lowered his rating on the stock to market perform from strong buy, he made it clear that he still believed in the company. "This downgrade is based on uncertainty," he wrote, "not a desire to cast our lot with those in markets and journalism who have spread unfounded rumors and accusations, and who we believe have actually contributed to the spreading market confidence contagion that we believe is behind much of the decline in TYC stock." The evidence supporting Bannister's belief that Tyco is being unfairly punished remains unseen, but his notion that the company is suffering from a confidence contagion isn't far from the mark. On the face of it, the Tyco news on Tuesday was only incrementally worse than it was a day before. Yet the shares tumbled hard. The interplay between Tyco's stock and bonds make this confidence crisis particularly damaging. Trading in Tyco debt reflects the bond market's view of the company's creditworthiness. When the bonds fall, stock investors question Tyco's access to the credit market. And so the stock falls.
But when the stock price drops, bond investors get the jitters, too. They worry, for instance, that the company may opt out of its plan to split itself into several pieces, an idea a piece in The New York Times floated as an alternative for the company. Tyco says the proceeds from the breakup -- $11 billion by the company's estimation -- will go toward paying down debt. The problem for Tyco is that its real financial health right now has a lot to do with the health of its stock and bond prices. In Tyco Capital, it has a large finance subsidiary that depends on a good credit rating. Thus the commercial paper buyback, which despite its market-reassuring intent, actually spurred Fitch's postclose rating cut. Because of its credit exposure, Tyco can't take its bat and ball and walk away from the bond market. Similarly, when its stock price goes down, Tyco needs to worry about a lower selling price on its breakup. Caught in this dynamic, it's hard to figure out at what point investors are going to decide Tyco is worth buying. Surely the company, which owns real businesses that sell real things, has some value. "I cannot believe that if you raise the hood on this operation you're going to see cancer there," says Stanley Nabi, managing director at Credit Suisse Asset Management. "I think you're only going to see minor blemishes." But given the confusion surrounding Tyco's accounting and the inherent difficulty in appropriately valuing a huge conglomerate whose future plans seem to shift daily, how are investors going to know when enough is enough? Nabi says he's been steadily buying Tyco since it slipped into the mid-$30s. Tuesday, it closed at $23.10.