Corporate growth could see a 10% drop in virus-slammed industries amid mounting debt levels, New York Fed says
- Corporate growth could slow up to 10% among firms hit hardest by the coronavirus pandemic due to large debt overhangs and revenue contraction, researchers at the Federal Reserve Bank of New York said Monday.
- Firms in the travel, hospitality, and tourism industries held twice as much debt on average than businesses in other industries before the pandemic hit.
- Couple the debt overhangs with severe revenue contractions through 2020, and it's likely that the aforementioned industries will recover far slower than others in the years ahead, according to the central bank's report.
- Debt-overhang risks particularly endanger small businesses, as they have more limited access to financing options. Reduced growth prospects for smaller firms could significantly weigh on economic growth and employment, the team said.
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Debt overhangs fueled by the coronavirus recession will slow hard-hit firms' growth as much as 10%, researchers at the Federal Reserve Bank of New York said Tuesday.
Record-high corporate indebtedness prompted concerns ahead of the COVID-19 pandemic, and frozen revenue streams exacerbated the issue once the health crisis hit the US economy. Though vaccine developments signal a full recovery will begin in 2021, massive debt piles will lead some businesses to rebound far slower than others.
Researchers Kristian Blickle and João Santos highlighted that firms in the tourism, restaurant, and hospitality industries entered the recession with twice as much debt on average than businesses in other industries. Those firms also faced the most severe revenue contractions throughout the year.
"The combination of high prior debt overhang and revenue contractions in 2020 could lead firms in these most affected industries to grow 10 percent more slowly in a Great Recession-type crisis than they would in ordinary times," the team said.
The trend mirrors what was seen in the wake of the Great Recession. Growth in assets, capital expenditures, and employee counts bounced back faster among low-overhang firms than those with larger debt piles or negative earnings, according to the Fed report.
The financial crisis's fallout was more pronounced for firms with needs for external funding, the team added.
Debt-ownership structures present yet another risk to businesses with large overhangs. Spread-out debt ownership could hinder forgiveness efforts, since forgiveness by one party "presents a free-rider problem" if any other debt-holder doesn't follow suit, the Fed said.
Chapter 11 bankruptcy proceedings present an option when voluntary forgiveness isn't possible, but the process isn't as effective for small businesses. Where large firms can tap debtor-in-possession financing options, small firms have limited access to that lifeline.
Reduced long-term growth prospects or the possible liquidation of small businesses "represents a sizable risk for the economy," as the segment accounts for a large share of employment and economic growth, the Fed researchers said.
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