‘Junk Bonds’ Necessary

Webster’s New World Dictionary defines junk as “useless or worthless stuff�; Drexel Burnham Lambert, king of the “junk bond� underwriters, obviously has a different view.

And while Drexel has long since abandoned its attempts to rub out the term junk bonds, the investment banker is working hard to change the image of the bonds and to deflect attempts by Congress to limit uses of the high-yield, less-than-investment-grade securities.

Drexel has released a series of studies on each of the 50 states and the nation as a whole, which explain junk bonds and demonstrate “how harmful restrictions on the high-yield bond market would be to the companies that rely on them, to their employees and to the economy as a whole,� the U.S. report stated.

Nationwide, about 95% of the 23,000 companies with sales of more than $25 million do not qualify for investment-grade ratings from Moody’s and Standard & Poor’s bond rating agencies, the studies found. In California, about 97% of the nearly 3,000 companies with sales of more than $25 million do not qualify for investment-grade ratings.

Thus, the bulk of the nation’s medium-sized companies must issue junk bonds, generally rated BB or lower, if they want to raise money in the public debt market, the studies said.

“These companies are the backbone of the United States, and keeping open the access to capital for these companies is not only critical to the medium-sized companies in the United States, but it’s also critical to the health of the country,� said John H. Kissick, Drexel executive vice president and director of West Coast corporate finance.

Nationwide, 1,200 companies have raised more than $124 million through junk bonds since 1977, the studies reported. During the past three years, those companies had an aggregate revenue growth of 32% and employment growth of 24%. During the same period, investment-grade companies recorded revenue growth of less than 12% and a 4% decline in the number of employees.

Contrary to popular belief, only 2% of junk bonds issued from 1980 to 1986 were used to finance hostile takeovers, Kissick said. When Drexel’s private placements with large investors are included, less than 7% of the junk bonds sold by Drexel from 1980 to 1986 were involved in hostile takeovers. “There’s no reason, if you just read the press, to invest in junk bonds. The name’s not a great name,� Kissick said.

“The risk on junk bonds is generally higher than the risk on investment-grade bonds,� he said. “The return is significantly higher.�