Most NZX-listed companies have shied away from the post-2007 corporate debt binge cited as a growing risk in many offshore markets, new Harbour Asset Management research reveals.
According to the Harbour study, the median NZ listed company debt has remained stable or decreased across several metrics compared to pre-GFC (global financial crisis) levels. The NZ result contrasts with a recent Citibank report that found median US corporate net debt compared to earnings before interest, tax depreciation and amortisation (EBITDA) increased from 1.4-times in October 2007 to 1.6-times at the latest measure.
Research by McKinsey in 2018 found the non-financial corporate bond market almost tripled post-GFC to reach US$11.7 trillion of outstanding debt in 2017. The McKinsey report says between US$1.6 trillion and US$2.2 trillion were set to mature over 2018-2022.
High corporate debt was one of the “driving factors” behind the GFC, the Harbour paper says.
“The median NZ equity market Net Debt EBITDA ratio was 1.8x as at January 2019 and has been relatively constant over time,” the Harbour study says. “While this ratio is higher than in the US, the NZ equity market Net Debt EBITDA ratio includes a larger proportion of long-lived assets relative to the US.”
“Under stable economic conditions with consistent regulatory policies these companies can service higher debt levels through time meaning, on average, the NZ market is likely to be relatively more leveraged than the more cyclical and growth-oriented US equity market.”
Harbour chief, Andrew Bascand, who co-authored the paper with portfolio manager Shane Solly, said the ‘long-lived assets’ includes the relatively high proportion of utility stocks on the NZX.
The Harbour study excluded financial stocks and fast-growing debt-free NZX companies.
Bascand said two other measures – interest rate coverage and leverage (which compares borrowing to equity) – show the debt situation for the median NZX firm has either improved or remained stable post-GFC.
The median firm interest rate coverage improved from 4.41-times earnings in January 2007 to 7.87-times 12 years later during a period when the average NZ corporate debt rate dropped from about 8 per cent to 5.3 per cent.
Similarly, the median leverage ratio was more or less stable over the 12-year period. The average leverage ratio (which measures the combined debt of all companies in the study) actually fell from 2.3-times in 2007 to 1.99-times this January.
In spite of the generally benign conditions for NZ corporate balance sheets, the Harbour study did highlight an increase in the average level of debt to EBITDA, which rose from almost 3.1-times in 2007 to 3.71-times 12 years later.
However, Bascand said the average debt measure was skewed by just a handful of larger companies – notably Fletcher Building and Fonterra with the former in particular moving to rapidly reduce borrowings in recent months.
He said the retirement village sector (which is engaged in a capital-heavy building phase) and utility firms Chorus and Genesis Energy also added to the high average debt figure.
“On balance, Harbour’s conclusion to this review of New Zealand equity market debt trends is that the median company debt levels are relatively modest and that the NZ market generally has conservative balance sheets,” the paper says.
“There is potential for company-specific debt accumulation stress in the NZ market. The key companies we highlight to watch for debt stress include Fonterra (and how they execute asset sales and potentially use recourse to the milk price pool) and parts of the retirement village sector (sell down of new units after a period of accelerated development into strong underlying demand may improve debt metrics).”
Bascand said the post-GFC era has seen a diversification of NZ corporate borrowing strategies as companies increasingly turn to investment markets rather than banks to fund growth.
“We always encourage companies to source alternative sources of debt,” he said. “Access to non-bank debt is important for funding long-term growth plans – banks typically don’t like to issue debt for more than a five-year term.”
And Bascand said NZ banks are also facing potential restraints on lending under a Reserve Bank of NZ proposal that will almost double the amount of reserve capital they have to hold.
“We’re not anticipating a credit crunch,” he said. “But with the uncertainty around bank capital it’s not a bad idea for companies to diversify their sources of debt.”
In another paper published last week, Harbour senior credit analyst, Simon Pannett, outlines the potential effect of the RBNZ bank capital proposals on lending and fixed income markets concluding the “risk to the economic outlook as skewed to the downside”.