by RICHIEMACK on JANUARY 9, 2013 - 1 Comment in WORK
The directors of these businesses, and their employees, continue working each day with no end to the misery in sight – thanks to government help, ultra-loose monetary policy and, often, the reluctance of lenders to write down bad loans since the crisis.
The belief is spreading that these firms – which spend their cash servicing interest payments are unable to invest in new equipment or future growth areas – are to blame for the weak recovery, hogging resources that could go to more productive areas, and could bring down the whole economy in parts of Europe.
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.
And like Zombies in the movies, they can infect the healthy in an instant.
Suppliers, reluctant to lose what may be a key customer, succumb to the will of zombie companies and become increasingly exposed to them so that eventually they cannot afford for their zombie clients to fail. This cascades down the supplier chain, with each debtor in turn deferring payments and causing many more companies to become infected with the burden of the original zombie company’s debt.
Creditors and lenders have also been supporting these zombie companies for so long that they often cannot afford to enforce their security when the zombie company is unable to pay. As the value of the assets of these companies withers away and decomposes, secured creditors are realising that the zombie companies have little or no inherent value and that there is significant risk of default and loss.
Recent research by R3 suggests that this infection has spread to around 146,000 companies in the UK and that 8% of businesses admit to only being able to service the interest (not the principal) on their debts. Given their debts, the loss of a significant customer, the failure of a key supplier or even a modest increase in interest rates would tip many of these businesses over the edge.
“The whole UK economy now risks many years of depression as these businesses continue to infect corporates and financial institutions in the UK and abroad” says Paul Wood of brokers Smith & Williamson.
“The only option left for many of these creditor companies is to cut off the life blood of these zombie companies – namely the extended credit. As in all previous recessions, a proportion of these businesses need to fail to allow healthy businesses the space to grow and pull the economy out of the doldrums,” says Wood. “This recession is no different. These zombie companies are tying up capital and resource that could be put to better use elsewhere in the economy. The fact that the infection has spread so virulently will make any correction drastic in its effect; many businesses will go insolvent with the loss of thousands of jobs.
“However, strong healthy businesses will be left, with directors that have taken appropriate steps to secure the long-term viability of their companies. This is an extreme measure, which may be a politically and socially difficult pill to swallow, but it is the only way the UK economy can return to strong, sustained growth.
“The big question is what will be the catalyst for this to start,” asks Wood.
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