When will the ECB's road to austerity end? Companies in deep financial distress continue to climb

According to Alvarez & Marsal data, more than a quarter of companies in Europe and the Middle East have balance sheet anomalies, as these companies were heavily indebted during the COVID-19 pandemic and now face rising interest rates and soaring inflation. The report notes that around 28% of companies are in a poor balance sheet position in 2022, while 8.4% are in distress. The report highlights that the Middle East, Spain and Germany are the regions with the highest proportion of distress.

The number of companies with weak balance sheets rose slightly, up 12 percent from last year, reflecting the amount of government loans companies received during the epidemic, as well as the pressure on balance sheets caused by large liabilities and high interest rates.

"The health of the company's finances will gradually suffer as the profitability of the company gradually decreases and it cannot pay interest on higher liabilities," said the head of financial restructuring in EMEA. Currently, the debt position of the company is mainly measured by the indicators of net debt/EBITDA, solvency ratio and interest protection multiple.

With European Central Bank interest rates up 400 basis points over the past year and the eurozone experiencing record inflationary pressures, companies have been hit hard. With markets still shaky and investors more selective, borrowers with weaker financials find themselves unable to secure support from capital markets and find it difficult to renew existing debt.

The study included more than 7,000 public and private companies with annual revenues of more than 20 million euros ($22 million) in 33 countries across Europe and the Middle East. Non-food consumer businesses, media and entertainment, and energy and utility businesses were the weakest sectors, the report noted. The share of businesses that rely on discretionary spending in distress rose from 8.5% the previous year to around 13% in 2022 as mortgage rates rose and inflation eroded customers' disposable income.

Energy and utility companies have been affected by a "bipolar reaction" in the turmoil in European markets. Some businesses have achieved higher operating profits after soaring oil and gas prices, but many utilities have struggled to pass on higher rates to customers. According to the report, the proportion of gas companies in distress rose from 6.5% to 19%.

On a country-by-country basis, German restructuring is likely to be "ahead of the pack" as its legal framework tests liquidity. In Spain, while a large proportion of companies are in trouble, levels have fallen year-on-year, in part because of a "stunning rebound in tourism". Kirkbright and Farsaci argue that tighter financial conditions and a recession will exacerbate the problems facing companies. "We expect the tough situation to force more companies to actively deleverage and restructure," they write.