More corporate failures are looming as the tighter credit conditions start to bite troubled firms, predicts a new report from Moody’s Investors Service.

The limited availability of loan and bond financing for speculative-grade, non-financial companies will accelerate the failure of companies with high leverage and poor business models, the rating agency said on Tuesday. As a result, it predicts that the tighter credit conditions will help propel the North American speculative grade default rate to more than twice its current level over the next year.

“Up until the abrupt change in market conditions in July, troubled companies were often able to obtain rescue financing that staved off default and bankruptcy. This contributed to a surprisingly low default rate, given that the number of companies with ratings below B2 is at a record level,” says Dan Gates, Moody’s chief credit officer for corporate finance in North America. “The earlier period of easy market standards may have only postponed the day of reckoning for companies that have persistent negative cash flow or flawed business models.”

Moody’s reports that there has been little investor appetite for low-rated new issuance since July and more than 50 planned high-yield and leveraged-loan transactions have been deferred.

The report also notes that the volume of debt maturities for speculative-grade issuers is very light in relation to the amount of debt outstanding, with only about $26 billion in scheduled maturities between now and yearend 2008, because so many companies refinanced when market conditions were favourable.

Companies also used benign market conditions to relax or eliminate financial covenants in their bank credit facilities. “The absence of debt maturities, combined with lax covenant structures, will continue to delay default for a number of poorly performing companies. Many defaults may be triggered by issuers simply running out of cash to sustain their operations when negative cash flow can’t be covered through new financing,” Gates says.

The credit picture is more stable for investment-grade issuers, Moody’s notes. Although, it adds that some liquidity pressure is apparent from the record drop in the volume of outstanding commercial paper over the past two weeks. Moody’s says that some issuers are exiting the market due to the lower cost of borrowing under their committed bank backstop facilities while others are unable to place commercial paper in the current market.

Additionally, Moody’s points out that the market’s reassessment of credit standards may cause weaker economic conditions, which could undercut cash flow in cyclical sectors. “Tighter consumer credit standards and a weaker economic outlook have already caused further deterioration in the negative outlook for homebuilders. Other sectors that are dependent upon consumer confidence and discretionary spending include consumer durables, autos and retail,” it says. “A number of companies in these sectors have taken on high leverage over the past several years and a majority of the companies in these sectors have non-investment grade ratings.”