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We've had a wild few weeks leading up to a big debt-ceiling deal, which some have hailed as a historic compromise, and others as a "Satan sandwich." The threat that major credit rating agencies might downgrade the United States of America from its top rating of AAA to something less perfect lent extra urgency to the negotiations. While two of the main agencies have left our rating unchanged, the S&P did indeed demote it, despite the debt deal. That means there are now four companies whose AAA status leaves them rated higher than the U.S. government.
The cream of the crop
There are 500 large companies in the S&P 500, and more than 8,000 stock securities that trade on the NYSE Arca platform, including Nasdaq-listed stocks. Out of all that, only Johnson & Johnson (NYSE: JNJ ) , Microsoft (Nasdaq: MSFT ) , Automatic Data Processing, and ExxonMobil (NYSE: XOM ) hold the top credit rating! What makes them so special?
For starters, all are huge, sport sizable profit margins, and pay solid dividends:
Net Profit Margin
|Johnson & Johnson||$170 billion||3.7%||18%|
|Automatic Data Processing||$24 billion||3.0%||13%|
Data: Motley Fool CAPS.
And while Microsoft only started paying a dividend in recent years, the others have been doing so for a long time. ExxonMobil's been making payouts since 1882, while ADP's been paying its investors since 1974. These companies have also raised their dividends significantly over the decades. Johnson & Johnson has been increasing its payout annually for nearly 50 years.
Each also has a lot of cash and short-term investments, ranging from $10 billion for ExxonMobil to more than $51 billion for Microsoft. In late July, The Atlantic magazine and others pointed out that Apple's (Nasdaq: AAPL ) $76 billion in cash topped the U.S. Treasury's operating balance, which was then $74 billion.
Apples and oranges?
Still, as fun as these comparisons can be, they're not quite fair. Companies and governments are rather different enterprises. One collects revenue by selling goods or services, while the other collects revenue in the form of taxes in order to provide goods and services.
There are a few similarities, though. When a government is low on cash, it can usually just print more money -- though that can lead to inflation. Companies can do likewise by issuing more shares of stock, but that leads to a similar problem; the new shares dilute the value of existing shareholders' stock.
Downgrades and upgrades
A U.S. downgrade isn't the end of the world, but it might lead to some corporate debt downgrades, particularly among companies that do a lot of business with the government. Defense contractor Boeing (NYSE: BA ) , for example, took in $19 billion in government contracts in 2010, representing 31% of its overall revenue. Lockheed Martin took in $36 billion, fully 78% of its 2010 revenue.
Of course, companies can end up downgraded on their own, too. In the 1980s, there were about 60 companies with AAA ratings. General Electric (NYSE: GE ) and Pfizer (NYSE: PFE ) both lost their AAA ratings in recent years. GE, having held the AAA rating since 1956, lost it in 2009 in the midst of the credit crunch, as its GE Capital business came under pressure. Pfizer got downgraded in 2009 after taking on gobs of debt to finance its purchase of Wyeth.
Why do ratings matter?
In theory, a lower rating means that a company won't be offered the lowest interest rates when it wants to borrow money. In some cases, that can depress profitability, though this scenario doesn't always come to pass. (GE's borrowing costs actually fell soon after its downgrade.)
It's also not always true that a AAA rating makes a company bulletproof. Each of the four companies above faces its own challenges.
ADP is sensitive to the economic environment, and it suffers when companies aren't healthy and hiring. Microsoft's dominance has been fading in recent years, though it's finding success with its Xbox franchise. Johnson & Johnson has dismayed investors with multiple recent recalls, but it also offers many popular consumer products, medical devices such as stents, and drugs both on the market and in development.
ExxonMobil has been posting record earnings lately, and it might feel threatened by growing interest in alternative energies. However, it's been investing in those energies itself, and it stands to benefit from their adoption. Exxon's also vulnerable to oil spills and other costly disasters.
Still, even with slower growth, these companies will likely grow faster than the U.S. economy. And unlike Uncle Sam, this quartet will actually pay you dividends in the process.
Credit ratings are just one of the many signs you should examine when seeking great stocks. You might not see a AAA score, but even AA+ and similarly high ratings can be promising signs of corporate health.
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