While many firms refinanced debt during lower spreads, several sectors remain highly leveraged

10/01/2024

---

The ongoing Selic benchmark interest rate hike, which began in September, is expected to impact the financial performance of companies raising funds through the debt market, particularly those in highly leveraged sectors such as retail, car rentals, and healthcare. However, the fallout is likely to be less severe than in 2021, when the rapid increase in Brazil’s policy interest rate to 13.75% from 2% over just a year strained these companies’ ability to manage their debt costs. This time, many firms acted preemptively, capitalizing on strong demand for bonds to refinance at lower spreads and extended maturities.

“Some companies that access capital markets have issued new debt, allowing them to swap higher-cost obligations for lower spreads and longer terms, reducing short-term rollover risks,” explains Vivian Lee, partner and manager at Ibiuna. “But for those already facing liquidity pressures, the rate increase is anything but trivial.”

A report from the SWM Group obtained by Valor highlights that certain cyclical sectors, such as car rentals, food and textile retailers, and healthcare providers are in a more precarious leverage position. “With the rise in the Selic rate, these companies are seeing either an increase or, at best, stabilization of leverage due to higher financial costs,” says Odilon Costa, SWM’s fixed income and corporate debt strategist. “Investors need to be cautious, as the credit fundamentals of some issuers have become more concerning. The risk-return balance of these assets deserves closer attention.”

Mr. Costa notes that rental companies are facing heightened leverage due to a combination of fleet maintenance and expansion needs, coupled with a decline in used vehicle prices. Meanwhile, food and textile retailers have benefited from more robust consumer spending but are still grappling with tight credit conditions and stiffer competition. For healthcare companies, including hospitals and laboratories, costs have eased somewhat, though payment delays from operators remain a significant challenge, according to the SWM report.

With profit margins as low as 5% to 10% and high levels of debt, any increase in the Selic rate could significantly erode companies’ net results, says Rosana Pádua, board member of the Brazilian Institute of Finance Executives of São Paulo (IBEF-SP). “In some cases, companies don’t even have enough margin to service their debt. That’s why many have struggled since rates increased and have filed for court-supervised reorganization.”

From the funding perspective, the latest Selic adjustment to 10.75% per year from 10.5% hasn’t impacted companies’ decisions to issue bonds. According to Miguel Diaz, Santander’s capital markets specialist, firms generally focus more on the spread they’ll pay investors rather than the total financial cost.

“The spread is the main criterion for deciding whether to move forward. It’s different from the bond market, where the emphasis is on the overall cost of financing,” he explains. Mr. Diaz adds that the rate hike could even lead to an increase in available resources for funds.

Vivian Lee from Ibiuna Capital agrees that if interest rates continue to rise as expected, the flow of funds to corporate debt investments is unlikely to be affected. However, if the Selic climbs above 14% per year, individual investors may shift their capital toward more liquid options like CDBs from large banks or government bonds. “At that point, the impact on companies’ financial expenses will be much greater, and credit risk will rise,” she cautions, noting that Ibiuna’s baseline scenario does not currently foresee a Selic rate reaching 14%.

The previous rate hike cycle, which began in 2021, hit Brazilian companies hard. Many had taken advantage of the 2% Selic rate to increase their debt, aiming to finance post-pandemic expansion. However, deteriorating macroeconomic conditions, rising commodity prices, and the devaluation of the real led the Central Bank to sharply raise the Selic rate, peaking at 13.75% in August 2022, the highest since 2016.

This time around, if interest rates climb too much, the benefits of issuing debt at lower rates earlier this year could be wiped out, says Mr. Costa. “The effort to reduce spreads may be negated by a rise in the CDI (interbank short-term rate),” he notes. “At the beginning of the year, the premium on the most liquid debentures dropped from CDI plus 2.3% to CDI plus 1.6%, a 70-basis-point reduction. But if the Selic rises by 150 basis points, the nominal cost of debt will climb much higher.”

Last week’s Focus Bulletin projected the Selic rate to be 11.5% by the end of the year. However, after the Central Bank’s Inflation Report, some market players began betting on a more aggressive rate hike to keep inflation within target, with some institutions forecasting a 12.5% rate at the peak of the tightening cycle. In the latest Focus report, the median expectation edged up to 11.75%.

*By Rita Azevedo — São Paulo

Source: Valor Internatinal

https://valorinternational.globo.com/