• UK plc net debt hit a new high of £443.2bn, following eight consecutive years of rises
• This is up by nearly three quarters since 2010/11 low point
• Total debts (excluding cash and equivalents) rose by 6.7% to record £638.3bn
• Cash balances also grew rapidly, up 8.9% to £195.1bn
• Top 100 companies saw debts rise faster than mid-caps
• Health care and utilities companies saw the largest increases in debt
• Despite debts reaching new records, the measures of debt burden and sustainability are not yet stretched
UK plc borrowing rose for the eighth consecutive year in 2018/19, according to the latest Link Group UK plc Debt Monitor.
Net debt (total borrowings less cash), jumped 5.8% to a new record of £443.2bn, even allowing for higher cash balances. Net debt has now risen by three quarters since the low point reached in 2010/11, when companies were still adjusting to the disruption caused by the financial crisis and subsequent recession. The £24.2bn increase in 2018/19 comes at a time when UK plc profitability is under pressure: operating profits were flat year-on-year after growing strongly over the previous two years.
Total debts, which do not take into account any cash or liquid investments companies hold, rose 6.7% to a record £638.3bn. Cash balances, meanwhile, grew rapidly, up 8.9% to a comfortable record of £195.1bn. This is bigger than an entire year’s operating profits from UK plc, and enough to pay two years’ dividends from the companies in the study.
Top 100 companies saw their borrowings rise faster than mid- and small-caps, though the increase in net debt was mitigated by rising cash balances, which jumped by one eighth. Outside the top 100, total debts were almost unchanged. This group saw operating profits fall year-on-year. As a result, they ran through 6.8% of their cash, so their net debts rose too.
Healthcare and utilities made the biggest contribution to the annual increase in debts, though for very different reasons. Oil, telecoms and mining were the only sectors to see lower debts year-on-year. Two fifths of companies increased their borrowing, with those outside the top 100 more likely to do so as they faced slowing demand.
Despite the value of UK plc’s debts reaching new records, the measures of debt burden and debt sustainability are not showing signs of strain. The core debt/equity, liabilities/assets, and short-term/long-term debt ratios all improved slightly year-on-year. Meanwhile, though interest payments rose slightly as a percentage of operating profits (mainly owing to the lack of profit growth), they remained below the average for the last decade, thanks to the very low cost of finance at present.
The value of debt compared to operating profit rose to 2.6x, however, the third highest reading since 2008/9. This is nevertheless well below 4x, where a rule of thumb suggests companies would likely face difficulty repaying debts if they were called. The figures further show that there were no big outliers that distorted the picture – in other words the majority of companies followed the trend for each of these measures.
Even though borrowing rose to record levels in 2018/19, the increase was in truth relatively modest, especially if we adjust for the impact of big transactions like GlaxoSmithKline debt-financed buyout of a joint venture with Novartis. What’s more, mid-cap and smaller companies are clearly showing greater caution than their larger counterparts as they are more reliant on the slowing and uncertain UK economy.
Michael Kempe, Chief Operating Officer of Link Market Services commented:
“Borrowing will always rise over the long term because debt is almost always a cheaper means of raising capital for investment than equity. As companies grow, their capacity to take on new loans to finance their expansion increases. So, only considering UK plc’s debt pile in isolation doesn’t tell the whole story. It’s really important to consider the burden of debt, and how sustainable it is as well. This is why the increase in borrowing in 2018/19 isn’t a cause for concern. It’s well backed by assets, and easily serviced at present by the profits companies are making. There are of course companies and sectors under strain, but the overall picture is reasonably comfortable.
“Over the next year we expect companies to maintain a cautious stance as long as uncertainties abound in the UK, and while the risks to the global economy rise. The trajectory of interest rates should provide some comfort, however, as central banks have sounded increasingly dovish of late.”
Damian Watkin, Director at D.F. King, part of Link Group added:
“As companies have moved away from short-term debt, we have seen the type of debt they are taking on change, too. Bonds have risen in popularity, at the expense of shorter-term loans. In particular, the issuance of high-yield bonds – those issued by lower rated companies – has exploded in the last decade. This is not limited to the UK, but is a Europe-wide phenomenon.
“This position may be manageable in the current low interest-rate environment, in which investors are still searching for yield and issuers are able to roll over maturities financed with new issues. Should rising interest rates close the high-yield market to lower quality borrowers, however, a significant rise in debt restructurings and defaults would be on the cards among highly indebted companies.
“Historically, refinancing has been easier with a small number of lending banks, rather than large number of often unknown bondholders. Companies can take action ahead of time, and ahead of any interest rate rises, on upcoming maturities through liability management exercises, for example, repaying bonds early with cash, or with money raised via a new bond.”