Corporate distress among small and medium-sized enterprises (SMEs) reached its highest level since mid-2020 in the three months leading up to May in Britain and Europe, according to an index compiled by law firm Weil Gotshal and Manges. The study showed that SMEs are particularly struggling as credit conditions tighten and higher interest rates squeeze liquidity. Andrew Wilkinson, co-head of Weil’s London Restructuring practice, noted that smaller corporates are the first to feel the strain because they have fewer options compared to larger companies. Furthermore, smaller corporates lack the pricing power of larger corporates in an inflationary environment.
The broader corporate distress index, which also covers large companies, slightly eased from February. The report’s definition of corporate distress includes uncertainty about corporate financial health and ability to service debts. Among the distressed countries, Britain was hit the hardest with a distressed level of 4.8, compared to the overall index average of 3.9. France also experienced a significant rise in corporate distress, reaching its highest level since August 2020. The country’s fiscal deficit was among the concerns cited by Fitch when it downgraded France’s sovereign credit rating to AA- on April 29.
In terms of sectors, it is unsurprising that the real estate sector was the most distressed for the second consecutive three-month period. Distress in the financial sector also posed a cause for worry. Neil Devaney, co-head of Weil’s London Restructuring practice, highlighted that the cracks in the real estate market were continuing to emerge, both from a commercial and residential perspective. Recent bank failures have further added to fears that credit will become less available and more expensive. Devaney also noted that certain markets, such as the UK, were facing additional pressures with soaring mortgage rates.
The study, which aggregates data from over 3,750 listed companies and financial market indicators, shows that distressed levels typically translate into actual default rates with a lag of approximately 12 months. S&P predicts that default rates for European sub-investment grade companies will rise to 3.6% in March 2024 from 2.8% this March.
Overall, the findings highlight the significant challenges faced by SMEs and the potential knock-on effects for the broader economy. It is crucial to provide support and resources to help these small businesses navigate through the current difficult conditions and bolster their resilience.
Perspective: The distress faced by small businesses is indicative of the challenges many entrepreneurs and innovators have encountered during the COVID-19 pandemic. It underscores the need for policies and initiatives that prioritize the survival and growth of small enterprises, as they play a vital role in driving economic recovery and job creation.
