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Τετάρτη 9 Ιανουαρίου 2013
Companies: The rise of the zombie
By Michael Stothard
“Liquidate labour,
liquidate stocks, liquidate farmers, liquidate real estate ... it will purge
the rottenness out of the system. People will work harder, live a more moral
life. Values will be adjusted, and enterprising people will pick up from less
enterprising people” Andrew Mellon, US
Treasury secretary, 1929
----------
When the construction
sector slumped three years ago, Mike, the shaggy-haired owner of a British
commercial landscaping company, was left struggling to
meet his overbearing
debt payments.
Salvation came in the
form of a cheap bank loan backed by the UK government, which helped him
refinance his old debt at much lower interest rates. His company was saved from
bankruptcy. But the blessing, as it turned out, has been a mixed one.
“All our money goes to
servicing this new loan, so while we are still here we are in a kind of
financial limbo with slim hope of a turnround,” he says. “Our equipment gets
more tattered every day and our employees are demoralised.”
Mike’s problems go to
the heart of a growing debate about the number of “zombie” companies in Europe.
They are alive – but barely – thanks to government help, ultra-loose monetary
policy and, often, the reluctance of lenders to write down bad loans since the
crisis.
The concern is that these
companies – which spend so much of their cash servicing interest payments that
they are unable to invest in new equipment or future growth areas – could be at
least partly to blame for the weak recovery in Europe, hogging resources that
could go to more productive areas.
In the US, where the
philosophy of “creative destruction” holds more sway, there has been a swift
increase in insolvency rates since the crisis. But this has been far less the
case in Europe, where policy makers have been more focused on protecting jobs
than on boosting efficiency.
The growing fear is
that the continent could be following the path of Japan, where low interest
rates, looser government policy and the failure of the big banks to foreclose
on unprofitable and highly indebted companies is thought to have contributed to
two decades of weak growth.
“The fundamental tenet
of capitalism, which holds that some bad companies need to fail to make way for
new and better ones, is being rewritten,” says Alan Bloom, global head of restructuring
at Ernst & Young. “Many European companies are just declining slowly and
have an urgent need for new management, a revised capital structure or at worst
to be allowed to fail,” he adds.
Figures from R3, the
insolvency industry trade body, show that one in 10 companies in the UK is able
to pay only the interest on their debts but not reduce the debt itself, a
common characteristic of zombie companies. This is up 10 per cent in the past
five months to 160,000 groups, with 70,000 groups struggling to pay their
interest payments.
In some parts of the
continent the problem appears even more severe. The lowest rates of insolvency
in 2011 were from Greece, Spain and Italy, the three countries whose economies
have struggled most. Fewer than 30 in every 10,000 companies fail in these countries
– this at a time when nearly one in three groups is loss-making, according to
Creditreform, a risk management group.
And the issue looks
far more severe than in previous recessions. In the economic slump of the
1990s, when EU gross domestic product shrank by less than 1 per cent, the
default rate for debt rated subinvestment grade by Standard & Poor’s hit 67
per cent, albeit with a small sample size. Today, after a fall of 4 per cent in
economic activity in 2009 alone, the default rate has not gone above 9 per cent
and now stands at 2.3 per cent.
This has sparked
concerns in the corridors of power, with the Bank of England raising the issue
for the first time in October. In its monetary policy meeting minutes it said
that “some companies may have been able to remain in operation during the
recession [as a result of government and central bank action]”, and that this
might have “hindered the reallocation of capital towards more productive
sectors”.
On the continent there
are similar worries. “Behind the scenes there is an emerging policy debate
about how many zombie companies there are and how bad the problem really is,”
says Sony Kapoor, head of Re-Define, a Brussels think-tank. “This is an issue
both the European Central Bank and the [European] Commission are concerned
about”.
Ultra-low interest
rates across Europe since the crisis have set the scene for the zombie company
phenomenon – allowing companies to exist that would have failed under ‘”normal”
circumstances – but it is the banks, according to insolvency professionals,
that should shoulder much of the responsibility for any problems.
This is because in the
past few years, struggling lenders have been unwilling to force the
restructuring or liquidation of companies they have loaned money, even for
groups that look unlikely ever to be able to repay.
Many banks have taken
the view that if they can just let loans sit there – and even give the company
a few years longer to pay if the loan falls due – they will, allowing them to
keep their loan books marked at par and delay taking a balance-sheet hit.
“Many continental
banks are under pressure in terms of their own balance sheets, which is
preventing them from moving into a more aggressive programme of restructuring
and recycling some of the companies through the economy,” says Andrew
Grimstone, senior restructuring partner at Deloitte.
. . .
A classic example of
this has been in Spain, where the small savings banks in particular were badly
hit by the collapse in the housing market in 2008. In 2011 it emerged that of
the €323bn worth of real estate loans on the books of Spanish banks, about
€175bn worth were “problematic”, according to the Ministry for Economy and
Competitiveness. The government had to mandate the banks to take extra
provisions.
Gilles Moec, European
economist at Deutsche Bank, says that outside the UK, the zombie problem is
chiefly focused in the peripheries of Europe rather than the core. “In Spain,
Ireland, Portugal and Greece, banks have been reluctant to pull the plug on companies
as it would have forced them to crystallise heavy losses.”
This phenomenon has
been a huge frustration to distressed hedge funds, many of them from the US,
which poured money and resources into Europe in the early years of the crisis
in the expectation of an imminent wave of asset sales. But this has not
materialised, with many banks still clinging to loans for dear life.
“A lot of the money
raised for European distress in the past few years has not been put to work at
the same rate as many expected,” says Galia Velimukhametova, who runs the
European distressed fund at GLG, the hedge fund. “The banks have not been
selling assets as fast as was envisaged.”
But the banks are not
the only problem. Some companies are zombies for more long-term structural
reasons, such as a burdensome pension liability amid an ageing population. One
midsized UK shipping company, which did not want to be named, generated £6.1m
in profits in 2011 but was obliged to contribute £6.3m to its connected pension
fund in the same period, making it a “pension zombie”.
The company’s chairman
told the Financial Times: “We are a zombie working for the benefit of current
pensioners but to the detriment of future pensioners as we are unable to invest
in new growth areas.” The cumulative exposure of the UK Pension Protection Fund,
the safety net for the underfunded schemes, to defined benefit schemes stands
at £227bn, a 32 per cent increase on 2011, according to KPMG.
There are early
indications that the situation for zombie companies might be starting to
change. As banks edge their way back to health, some are becoming more willing
to write down non-performing loans to market values and sell them. The Basel
III banking regulations also make holding loans more expensive, which is likely
to encourage further selling.
“Sooner or later these
companies are going to have to be restructured,” said Ms Velimukhametova.
PwC estimates that
European lenders have €2.5tn worth of loans that need to be unwound in the
coming decade, about €1tn of which are likely to be non-performing. A record
€65bn is estimated to have been sold in 2012, compared with €36bn in 2011 and
just €11bn the year before.
But with politicians
still focused on lowering the rate of corporate failures, any substantial trend
is likely to be slow, economists say. The all-time high of €65bn to be sold
this year is still a drop in the €2.5tn ocean. Insolvency rates are set to rise
only very slightly next year, according to S&P.
. . .
Many European
jurisdictions are still ill-equipped to deal with restructurings in the courts.
While Spain passed a new law in 2009 facilitating out-of-court debt
restructuring, proceedings can still be slow and difficult, many in the
industry say.
There is a cultural
barrier, too. In much of Europe a corporate failure is looked upon as a stain
against a businessman’s name. This is in sharp contrast to the more pioneering
US attitude. “Failure is an expected part of being an entrepreneur in the US,”
says Jon Moulton, founder of BetterCapital, the private equity house. “But in
much of Europe it is not the same. Entrepreneurs can face years of stigma and
court battles after a single failed venture.”
Today, the big debate
in policy circles is about whether more companies going bankrupt in Europe
would be a positive development in the long run. Some take a hard line.
“Europe is like a
forest floor that is being clogged with weeds, choking off nutrients and light
to saplings with a chance of becoming trees,” says John Alexander, head of
CBW’s corporate recovery and insolvency department. “What Europe needs is a
fire to clear out the undergrowth.”
But others in the
restructuring and economics communities – along with most politicians aware
that there are few votes in creative destruction – take the view that at this
stage at least, stability and employment is more important than eking out every
penny of efficiency.
“The main people who
promote a tougher stance on struggling companies are the vulture funds and the
advisers who think they will get more work,” says Derek Sach, head of
restructuring at RBS. “My judgment is that the pain has been about as much as
you can take without civil unrest.”
For Mike and his
struggling company, the creative destruction approach does not seem attractive.
Even if his equipment is growing more rickety and hopes of a recovery are
dimming by the day, he says there is always a chance: “A run of good contracts
could be just round the corner. We live in hope.”
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