02/22/2021 8:58 AM

Financial Health of Non-Financial Corporations in Lithuania: The Recent Trends

Statistics produced by the Bank of Lithuania shows that MFI funding to non-financial companies has decreased significantly. The value of MFI’s loan portfolios to business entities declined by 12.3% in 2020, which was the most substantial decrease throughout the EU.

There is a lot of speculation regarding the cause of these trends. On one hand, it may be due to the lower demand for loans, as a majority of Lithuanian companies have sufficient equity, in addition to receiving significant financial support from the government. On the other hand, banks’ lower risk appetite and their unwillingness to lend have also had a negative impact. However, do such arguments regarding higher credit risk have a reasonable basis?

COVID-19 has stopped business growth, however, it was unable to do serious damage

In Q1-Q3 2020 Lithuanian business entities generated EUR 69.7 billion in sales revenue, which was 1.6% less when compared with the same period during the previous year. Based on this data it appears that the COVID-19 pandemic did not affect Lithuanian businesses quite as badly as other countries around the world. However, the figures show that various business industries were impacted to varying degrees.

For example, the rise in the number of housing loans caused significant growth of sales in construction and real estate businesses (12.3% and 6.9% respectively). Additionally, and for obvious reasons, COVID-19 had a positive impact on IT and communication companies (+14.6%). However, important sectors like manufacturing and transportation contracted by 6.6% and 4.6% respectively. With respect to this last point it’s important to note that Lithuanian transportation companies were negatively affected not only by COVID-19, but also by the rollout of the EU’s “mobility package”.

Profit Margins Also Withstood The Pressure

Despite the fact that sales decreased slightly, profit margins remained stable. During Q3 2019 – Q3 2020 EBIDTA margins for non-financial corporations increased by 0.22 p.p. (to 9.3%), while ROE increased by 0.36 p.p. (to 14%). The best performers were energy companies, who saw their EBITDA margins grow from 19% to 27%, while ROE grew from 6% to 13%.

A majority of business sectors were also more profitable, but growth was not so significant. Only hotels and restaurants experienced a relatively large decline of margins (EBITDA margin fell from 18% to 9% while ROE from 36% to 9%). However, the size of this sector in respect of MFI loan portfolios and more generally, the economy, is relatively small.

Good Debt Management

The COVID-19 pandemic forced companies to borrow, thereby increasing their liabilities by 1.4% over Q3 2019 – Q3 2020. The most active borrowers were energy companies, who increased their liabilities by 15.1%. However, other sectors like real estate, construction and transportation reduced their debt. MFIs consider these sectors as having high credit risk and, therefore, such companies were forced to rely on internal financing.

Despite the positive growth of debt, indebtedness of businesses still remains relatively low and continues to shrink. For example, during Q3 2019 – Q3 2020, companies’ equity ratios improved from 55% to 57%. Additionally, net debt to EBITDA, which represents how many years the company needs to cover all its liabilities, was reduced from 3.8 to 3.5. Companies increased their debt, but this was in tandem with EBITDA and cash.

Trade, real estate, hotels and restaurants are the most indebted business sectors in Lithuania, with net debt to EBITDA ratios of 4.2, 5.6 and 5.6 respectively. Due to COVID-19, hotels and restaurants were unable to increase EBITDA, with ratios decreasing by 3.1 p.p. All other sectors, except hotels, restaurants and transportation, were in a position to reduce their debt.

Does the theory of increased credit risk have the reasonable basis?

Financial statement results suggest that there is no reasonable basis to think so. Most industries, apart from hotels or restaurants, demonstrate sustainable growth. Their profit margins are stable, liquidity is available and indebtedness is under control.

However, there are still many other factors, such as COVID-19 and conflicts regarding international trade, which continue to fuel increasing uncertainty and credit risk at the same time. Therefore, banks’ unwillingness to lend more than likely has is justified, despite the strong balance sheets of their business clients.