Prepared by Gabe de Bondt, Arne Gieseck, Giulio Nicoletti and Mika Tujula
This box provides an update on the impact of the coronavirus pandemic (COVID-19) on the health of the non-financial corporate sector in the euro area. It also assesses the extent to which policy support measures have eased strains on corporate finance and eased upward pressure on their vulnerabilities. The analysis is based on quarterly sectoral accounts data for the euro area aggregate. Accordingly, the box provides a comprehensive picture of the non-financial business sector, without distinguishing between countries, economic sectors, industries or firms.
The pandemic has threatened the profitability and operational efficiency of the euro area non-financial corporate sector. Profitability and operational efficiency are essential to the health of a business. While companies can survive for a long time without being profitable if they have the goodwill of creditors and investors, in order to survive in the long term, they must ultimately achieve and maintain profitability. Profit growth, measured by gross operating surplus and cash flow growth, has been negative since the start of the pandemic (Chart A, panel a). Gross operating surplus declined at rates similar to those observed during the global financial crisis, while the decline in cash flow was more severe than during this period. A similar picture emerges when looking at the net operating surplus / value added ratio and the cash flow / production ratio (Chart A, panel b).
Growth in profits of non-financial corporations and operational efficiency in the euro area
Liquidity in the non-financial corporate sector has been strongly supported by policy measures.
Faced with a deterioration in internally generated funds in 2020 compared to 2019, non-financial corporations (NFCs) not only began to accumulate liquidity for precautionary purposes, but also received around â¬ 550 billion in public support. . Without these measures, corporate savings net of capital depreciation would have been significantly negative in 2020. Total credit to NFCs, used by companies both to avoid a liquidity crisis and to accumulate more liquidity, has increased approximately 240 billion euros more in 2020 than in 2019, the increase being particularly marked in the first half of 2020. Businesses’ access to credit and their financing conditions were largely supported by new targeted refinancing operations longer term (TLTRO), emergency pandemic procurement program (PEPP), state loan guarantees and control measures. Liquidity rose sharply as companies resorted heavily to debt financing to offset falling profits. As a precaution, they placed a large part of the funds obtained in deposits to prepare for possible cash shortages and to pre-finance working capital needs, as was also the case in previous periods of crisis. .
In addition to the political support measures, the companies’ own efforts have also improved their liquidity conditions. In times of crisis, a company’s ability to meet its short-term obligations becomes its top priority. An important aspect of liquidity is the ability of a business to sell assets quickly to raise cash and quickly reduce all types of costs and expenses.
The latter includes the postponement and cancellation of investment projects to the extent possible. In total, the cash holdings of NFCs grew by around â¬ 400 billion more in 2020 than in 2019 – also reflecting the increased reliance on credit – with an increase concentrated mainly in the second quarter of 2020. The net result of the reduction in costs and investments is reflected in the net lending position (or financing gap) of NFCs (Chart B, panel a). In terms of gross value added, savings have increased and investment has fallen, leading to an increase in net lending and in fact turning positive in the second quarter of 2020. The cancellation of investment projects can, however, leave scars to more. long term in the economy by hampering future growth. potential.
The amount of cash available to businesses to pay interest expense is currently at comfortable levels. Cash coverage, i.e. the ratio of cash and deposit holdings to gross interest payments, has increased very significantly since 2010 and this increase accelerated during the COVID-crisis. 19 (Chart B, part b). Higher cash positions and lower gross interest payments both played a decisive role. Gross interest payments continued to decline during the pandemic – despite the sharp rise in debt – also thanks to the policy response in the form of PEPP, TLTRO, government loan guarantees and surveillance measures.
Savings / investment balance of non-financial companies and cash flow hedging in the euro area
The decline in the gross debt ratio of euro area NFCs since 2015 has been completely reversed since the COVID-19 epidemic. The consolidated gross indebtedness of companies has increased by 18.9 percentage points since the end of 2019, reaching 167.0% of their gross value added in the first quarter of 2021, only 1.1 percentage points below the record level reached at the start 2015 (Chart C, panel a).
57% of the increase in the gross debt ratio since the end of 2019 is explained by marked declines in economic activity and turnover (denominator effect), the rest being attributable to increased use of debt financing . This implies that only part of the increase in the debt ratio is expected to be passively reversed in the years to come if the economy returns to a more normal growth path. However, as the situation normalizes, a decrease in liquidity could favor a reduction in gross debt, as suggested by developments in net debt.
Due to the large amount of accumulated liquid assets, the net debt ratio increased much less than the gross debt. Net debt is now below the level it reached at the end of 2019 (Chart C, panel a). Liquidity can be a mitigating factor for high corporate leverage, provided that it is businesses with high levels of leverage that hold this high level of liquidity. At the height of the COVID-19 pandemic, large companies simultaneously increased their cash and debt levels (Chart C, panel b). However, for small (listed) companies, the accumulation of liquidity has not been as effective in mitigating the increase in their indebtedness. The correlation between rising cash and debt began to normalize after the peak of the COVID-19 pandemic.
Balance sheets of non-financial corporations in the euro area
The impact of the pandemic on NFC vulnerabilities is likely to be long-lasting, given the high level of liquidity heterogeneity between companies. Business vulnerabilities – as measured by the Composite Vulnerability Index – have risen sharply in the aftermath of the pandemic, exceeding levels seen in the aftermath of the global financial crisis (Chart D, panel a).
The increase in NFC vulnerabilities is largely due to declining sales, declining profitability, and increasing leverage and leverage. However, since mid-2020, improving economic activity and real and expected corporate profits have contributed to a decline in the vulnerability index and an improvement in the corporate debt situation. The vulnerabilities at the start of 2021 were close to their historical average levels and their levels at the end of 2019, as the gross debt ratio remained high and liquidity was mainly concentrated in large listed companies, as highlighted above. However, the vulnerabilities of small and medium-sized enterprises remain high and also mask significant heterogeneity between countries and sectors.
Broad monetary, fiscal and prudential policy measures have limited the increase in business vulnerabilities. These measures have prevented financing and rollover risks from materializing by providing direct liquidity support, improving access to credit, keeping debt servicing costs at historically low levels and allowing the maturity of the outstanding debt. A counterfactual exercise also shows that, without these measures, the vulnerability index would have reached a significantly higher value in mid-2020, and by early 2021 it would have remained slightly below the level it reached during the crisis. European sovereign debt (Chart D, panel a).
The number of bankruptcies declined in 2020, despite the sharp drop in the level of economic activity during the COVID-19 pandemic. In the past, business failures were closely linked to real GDP growth. This relationship broke during the pandemic (Chart D, panel b). Low debt financing costs, government support measures including bankruptcy moratoria, and court closures have prevented the deterioration in the health of businesses from leading to an increase in defaults at the height of the decade. crisis. However, it is not excluded that many companies, especially those in the sectors most affected by the pandemic, may still be forced to file for bankruptcy, in particular if the support measures are lifted too early or if the bank credit conditions. tighten strongly.
Vulnerabilities and corporate bankruptcies for Eurozone NFCs
In summary, the COVID-19 pandemic has had a marked impact on the health of businesses in the euro area. Companies have made a substantial effort to build up their liquidity reserves which, coupled with massive support from monetary, fiscal and supervisory authorities, have made it possible to avoid a liquidity crisis. At the same time, the profitability, operational efficiency and solvency of non-financial companies have been put under pressure during the bottlenecks. Going forward, the high and uneven level of gross and net indebtedness across countries, sectors and company size could limit the strength of economic growth in the medium term and increase the risk of an increase in company failures. .