The Economist Warns "A Reckoning Looms" For America's Debt-Binged Companies
Content adapted from this Zerohedge.com article : Source
The debt load of U.S. corporatoins is becoming worrisome to many.
U.S. non-financial corprate debt as a percentage of GBP now stands over 73%.
For the past decade, American corporations have increased their debt load significantly. The recession of 2007 is but a distant memory. An expanding economy coupled with low interest rates means that companies binged on debt.
No matter how it is measured, the debt load looks worrying. When calculated as a percentage of GDP, the total debt of America’s non-financial corporations reached 73.3% in the second quarter of 2017 (the latest available data). This is a record high. Measured against earnings before interest, tax, depreciation and amortisation (EBITDA), the net debt of non-financial companies in the S&P500 hit a ratio of 1.5 at of the end of 2016, a level not seen since 2003. And it remained nearly as high in 2017 (see chart).
One positive is that this time, only 27% of the companies are considered highly leverages, down from 42% in 2007. This means the debt load is more evenly distrubuted putting fewer firms at immediate risk.
Also, much of the debt was for stock buybacks or balance sheet management as compared to expansion of operations or acquisitions.
Even so, certain industries look particularly vulnerable under their debt loads. David Tesher of S&P Global Ratings says that retail is the sector in America most at risk. Such companies accumulated high levels of debt after more than a decade of private-equity-sponsored activity. They must also cope with tough competition from e-commerce. Around 50 American retailers filed for bankruptcy in 2017 alone, many due to the debt piled on by their private-equity owners. The most prominent example is Toys R Us, which was acquired by a consortium of private-equity firms in 2005. In the case of Payless ShoeSource, a retailer that also went bankrupt last year, creditors argued in court filings that its private-equity owners should share the blame for its collapse; after much argument, the owners agreed to put more than $20m back into the company.
Energy and utilities are two other industries at risk from their levels of indebtedness. The net debt-to-EBITDA ratio of the energy industry rose to three times by 2016, largely because of the shale-oil boom. But firms then issued a substantial amount of new equity. As earnings recovered with the rise in oil prices, their debt ratio improved to two times by last year. Utilities, meanwhile, which have always borrowed heavily, saw their debt rise to a 14-year high of 4.5 times earnings in 2017.
An interesting twist is that the tax reform package that was signed into law lowers the corporate tax rate from 35% to 21%. This is a benefit to these corporations. The negative is that the interest expense deduction is limited to 30% through 2021. It previously was unlimited.
How quickly many of these companies are put in jeopardy will depend upon the economy and other fiscal matters.
Non-adapted content found at zerohedge.com: Source
I don't think they're getting out of this debt.
This could be a double whammy.
I just saw that retail sales in the US fell for the third month in a row.
High debt load, slowing sales, possible slowing economy....
This might not end so well..
Nevertheless, the run from 2009 was debt fueled anyway. Central banks eased like never before. Keeping interest rates low allowed companies to load up on debt instead of using their cash. Many are looking good since servicing the debt with their cash reserves is no problem.
Retail tends not to be one that looks so good.
Another interesting thing is that refinancing debt will become harder and harder as interest rates increase. It will be very interesting to see how Utilities will handle the increase in refinancing.
At 73.3% in the second quarter of 2017!! this is a massive amount of debt for non-financial corporations. This high amount of debt might not be indicate a crisis coming but when borrowing is followed by a certain rise in interest rates, it gets difficult to service the debt making it difficult for borrowers to pay. This can have an influence on bankruptcy for the borrower and loss of wealth for the lender.
I don't discourage accessing a debt. It's a wise move if it's obtained in order to finance investment. The only problem is US firms are accumulating massive amounts of debt and the largest chunk of this debt belongs to the non-financial companies.
Lets hope this massive debt building doesn't trigger the next financial crisis as interest rates have began rising again.. This is going to make some corporate borrowers struggle to secure new financing. And we might also soon end up seeing the government make a tough decision of another bailout.
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This was a great read, he seems like a fascinating guy who has his head on straight and is secure in himself and his stance on these subjects. Thanks for the write-up, I might have to look into him some more
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tax rate from 35% to 21%, this is one of the good reasons that debt levels are not completely warning, because a lot of stimulus are being injected in the economy.
The reduction of companies considered highly leveraged had a very significant reduction which might give some optimism to the analysts (42% in 2007 to 27%).