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The Demica research measured financial pressure by using a model based on interest cover - the relationship between profits on the one hand, and interest payments on debt commitments on the other. The most recently reported year was compared to the previous year in order to see whether financial stress had increased or decreased. Change in financial stress was measured for European companies in different credit rating classes, amalgamating the main global credit rating companies systems into three categories - A rated companies, B rated companies, and sub-investment grade.
The study revealed that financial stress has increased for all rated companies in Europe. However, the increase has been absolutely marginal for A rated companies (3%), substantial for B rated companies (36%), and punishing for sub-investment grade companies (49%). Aside from underlining the urgency for sub-investment grade companies to reduce their weighted average cost of capital, this also has an economic importance, in that further company failure could dent the confidence of the current recovery, certainly in continental Europe.
The recent upsurge of interest in LBOs (Leveraged Buy-Outs) in Europe has created a community of corporations which are under particular financial pressure. For these companies, usually with a low credit rating because of their substantial debt burden, lower cost financing alternatives are imperative. As a result, securitisation of corporate assets, which enables better-rated asset-backed finance to be raised from the capital markets, has come onto the radar for most financial managers in this group.
Declan Lynch, Executive Vice President, Demica, comments : "Sub-investment grade corporations across Europe are being hit hard by the high cost of servicing current debt commitments. It is crucial for financial managers to seek alternative, lower-cost financing options, and asset-backed working capital finance is focusing on the invoice as the most effective security to employ to reduce interest costs. The potential reduction in costs are to be made are considerable, often down to just 50-100 points over Euribor.
"In our experience, companies which have been subject to an LBO are turning to asset-backed finance as a way of rapidly reducing the cost of replacement or development capital as soon as possible after deal conclusion. In the aggregated view of various international research bodies, around €150 billion (in equity) of LBOs will have been concluded in Western Europe between 2003 and 2005. It is in everyone’s interests that these companies can keep costs down and smooth the way back to profitability and long-term financial health".
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