Zombie firms may tie ECB’s hands
• Watch out for the zombies.
The plethora of companies propped up by the European Central Bank will limit policy makers’ ability to withdraw monetary stimulus that’s been supporting the continent’s bond market since the financial crisis, according to strategists at Bank of America.
About nine per cent of Europe’s biggest companies could be classified as the walking dead, companies that risk collapse if the support dries up, according to the analysts.
After the crash of Lehman Brothers sent global markets into a tailspin, a decade of easy- money policies gave breathing room for nations to get their balance sheets in check and allowed for a spirited revival in corporate profits. But as central bankers look to pull back stimulus for fear of overheating, the potentially grim outlook for vulnerable companies may give them pause, according to Bank of America.
“Monetary support in Europe over the last five years has allowed companies with weak profitability to continue to refinance their debt and stave off defaults,” analysts led by Barnaby Martin wrote in a note Monday. “This supports the point that our economists have been making: that the ECB will likely be very slow and patient in removing their extraordinary stimulus over the next year and a half.”
The strategists classify zombies as non- financial companies in the Euro Stoxx 600 with interest- coverage ratios — earnings relative to interest expenses — at one or less. The thinking goes that companies in this category are particularly vulnerable to rising interest rates.
About six per cent of European companies had a coverage ratio of less than 1 on the eve of Lehman’s downfall, a percentage that fell to as low as five per cent in 2013 when the euro- area sovereign debt crisis cooled. Zombies shot up to as high as 11 per cent in June 2016 before easing in recent months.
Energy companies, thanks to weak oil prices, and those based in southern Europe — particularly smaller firms faced with weak profit generation amid feeble growth — make up a disproportionate share of the zombie world, according to Bank of America.
To be sure, different metrics tell different stories about the health of corporate leverage, with some investors citing growth projections and yardsticks like net debt to earnings as reasons bond buyers can be more sanguine. But the coverage ratio is particularly useful in projecting how companies can cover debt costs from their earnings as interest costs rise.
Companies with coverage ratios of less than one include the Italian broadcaster Mediaset, Swedish energy company Lundin Petroleum, French advertising f i rm Publicis Groupe and Netherlands- based media group Altice, according to data compiled by Bloomberg.