This article first appeared in The Edge Malaysia Weekly on June 19, 2023 - June 25, 2023

PRIOR to the Covid-19 pandemic, which broke out in early 2020, no one would have imagined that Pharmaniaga Bhd could slip into Practice Note 17 (PN17) — the category for financially distressed companies on Bursa Malaysia. The company seemed to be on solid ground with its concession business as the main pharmaceutical vendor to supply products required by the government.

But, Covid-19 changed that.

Pharmaniaga fell under PN17 status after it took a hefty RM552.3 million impairment in its fourth quarter ended Dec 31, 2022, owing mainly to its large inventory of unsold vaccines.

As at March 31, 2023, Pharmaniaga had total borrowings of RM1.25 billion, more than double the figure as at Dec 31, 2019, while its cash balance was a mere RM56.62 million.

Meanwhile, cash-strapped Sapura Energy Bhd is undertaking one of the largest debt restructuring exercises in recent years in corporate Malaysia. The company, which has debt and payables of RM15 billion, has yet to come out of the woods despite the boom in crude oil prices over the last one year.

The oil and gas (O&G) sector has many similar examples — companies that took on a lot of debt during the boom days of high oil prices, just prior to the September 2014 oil crash. They include Daya Materials Bhd, Perisai Petroleum Teknologi Bhd, Velesto Energy Bhd, Barakah Offshore Bhd, Icon Offshore Bhd, Alam Maritim Resources Bhd and TH Heavy Engineering Bhd.

Businesses across the board had enjoyed a low interest rate environment for years, following the Global Financial Crisis, when quantitative easing measures undertaken by central banks to stimulate economic activity meant ample liquidity in the global financial system.

Then, during the pandemic, when lockdowns caused a collapse in economic activities, central banks around the world, including Bank Negara Malaysia, slashed interest rates to ensure that borrowers ranging from businesses to individuals stayed afloat.

Fast forward to today, in less than two years, central banks led by the US Federal Reserve have ramped up interest rates in a bid to fight soaring inflation brought about by stimulus packages implemented during the pandemic, supply disruption and surging demand as economies reopened.

Bank Negara has raised the overnight policy rate (OPR) five times since May last year, by 25 basis points each time, to 3%.

The question is, are Malaysian companies overgeared? If so, are they able to service their debts? This is especially with the expectation of slower economic growth this year.

Note that corporate earnings for the first quarter ended March 31, 2023, disappointed, as only half of the 100 largest companies on Bursa Malaysia recorded a year-on-year increase in earnings, reflecting slowing growth in the wider economy.

The Malaysian corporate sector had been highly leveraged even before the pandemic. According to Bank Negara, corporate debt-to-gross domestic product went from 99.1%, or RM1.5 trillion, in June 2019 to 109.8% in December 2020, and to 109.7% in December 2021.

As at December 2022, the debt-to-GDP for the non-financials was 98.4%, thanks to robust economic growth and high commodity prices.

Advisory firm Sage 3 Sdn Bhd executive director Davin Fernandez observes that some Malaysian corporations are overleveraged and take too long to restructure.

He suggests that boards of public-listed companies take proactive action for restructuring when their performance begins to decline, rather than wait until they are near bankruptcy.

“Companies should examine their ability to generate cash and adjust their debt accordingly,” Fernandez tells The Edge.

“A crucial aspect of restructuring is an understanding of the enterprise value of the business, which is often overlooked by stakeholders in a restructuring.

“All companies, not just those in financial distress, could benefit from this evaluation and should restructure as necessary to achieve their strategic goals.”

According to Bloomberg data, Petronas Chemicals Group Bhd was the largest net cash company, with RM5.7 billion, whereas Tenaga Nasional Bhd had the highest level of net debt among Bursa companies as at March 31, 2023. The utility giant’s net debt stood at RM49.76 billion, almost 60% more than pre-Covid net debt of RM31.16 billion in late 2019.

Its net profit was also lower in financial year 2022, at RM3.46 billion, compared with RM4.53 billion in FY2019.

Its underwhelming financial performance was due to the spike in coal and natural gas prices, which comprised about 70% of its generation costs, as well as the one-off prosperity tax. Although there is a fuel cost pass-through mechanism, Tenaga saw its net debt-to-Ebitda (earnings before interest, taxes, depreciation and amortisation) rise to 2.42 times compared with 1.69 in 2019, indicating that the company’s earnings growth has been flattish despite increasing debt.

Tenaga has been generous, however, in its dividend payment over the last four financial years, with a payout ratio of 126% in FY2019, 127% in FY2020, 62.5% in FY2021 and 76% in FY2022.

Khazanah Nasional Bhd has a 23.67% stake in Tenaga; the Employees Provident Fund holds 16.06%; Permodalan Nasional Bhd (PNB), 15.74%; and Kumpulan Wang Persaraan (Diperbadankan) (KWAP), 7.44%. 

Sovereign fund Khazanah owns several large listed companies, including Axiata Group Bhd (36.73%), CelcomDigi Bhd (indirect stake of 33.1%), IHH Healthcare Bhd (25.99%), Malaysia Airports Holdings Bhd (33.24%), UEM Sunrise Bhd (69.56%), Telekom Malaysia Bhd (20.18%), Time dotCom Bhd (39.57%) and UEM Edgenta Bhd (69.14%). Companies in Khazanah’s stable have seen their net debt rise to RM95.67 billion at the end of March this year, compared with RM59.4 billion at end-FY2019.

Meanwhile, companies under Permodalan Nasional Bhd (PNB) had seen slightly lower net debt at RM29.24 billion as at end-March this year compared with RM30.97 billion at end-2019.

PNB’s group of companies include Sime Darby Bhd, Sime Darby Plantation Bhd, Sime Darby Property Bhd, S P Setia Bhd, auto and engineering giant UMW Holdings Bhd, O&G service providers Sapura Energy and Velesto, and pharmaceutical company Duopharma Biotech Bhd.

Sapura Energy had net debt of RM9.7 billion owed to banks, mainly Malayan Banking Bhd, which is 48%-owned by PNB.

Companies with the highest leverage are mainly in the utilities, property, telecommunications, O&G, construction and plantation sectors, which require high capital expenditure (see Table 1 on next page).

When corporations take on borrowings to grow their business, earnings growth should outpace the increase in debt, but that has not been the case for some listed companies for the past five to seven years.

According to Bloomberg data, the FBM KLCI — the benchmark index, which is made up of the 30 largest companies — saw a 4.27% decline in earnings per share (EPS) from 2013 to 2022. Meanwhile, the net debt per share of these companies has been growing.

So, what gives?

According to Areca Capital Sdn Bhd CEO Danny Wong, almost all business sectors were affected by the lockdowns of 2020 and 2021. Companies with less cash reserves had to raise debt to sustain their operating expenditure.

“In general, debt levels are higher now than pre-pandemic,” Wong tells The Edge, adding that companies that cannot recover their top line quickly enough could see their ability to service debts affected.

“There is a concern over interest expenses, but our rates so far are bearable unless the top lines have not recovered for certain segments or companies.

“Those not fast enough in their business recovery may face problems servicing the debts (interest, especially, as well as principal).

“One way is to raise funds from the capital market to finance the debts, which is now costlier than before. The problem comes when not all are able to raise capital.”

Bank Muamalat chief economist Mohd Afzanizam Abdul Rashid reckons that the cost of doing business, which includes raw material prices, wages, financing and regulatory compliance, has been on an upward trend for many industries.

“For instance, in construction, while there has been a series of projects awarded, rising prices for building materials such as steel and cement would cause margin compression for the sector.

“In that sense, investors would really need to deep-dive into the sector and business strategy to navigate the challenging operating environment,” Afzanizam tells The Edge.

He suggests that companies address their structural issues through the adoption of digitalisation and automation to increase productivity and improve margins.

There are also companies that went from a net cash position pre-pandemic to a net debt position (see Table 2).

Genting Bhd’s net debt stood at a whopping RM16.58 billion as at end-March this year compared to net cash of RM116 million at end-2019, as the group operates in one of the sectors that were most badly affected when international travel came to a halt for almost two years.

While analysts are mainly bullish about the recovery of Genting, albeit at a slower pace, owing to a sharp decline in crude palm oil prices and gradual recovery in its leisure segment.

Other tourism-related counters also faced a similar fate, including Capital A Bhd, which had net debt of RM2.32 billion as at March this year compared to net cash of RM2.16 billion at end-2019.

Capital A, which racked up losses during the pandemic as demand for air travel was clobbered by Covid-19-related restrictions, was classified as PN17 in January last year. Its sister company, AirAsia X Bhd, has also been classified as PN17.

Last year, AirAsia X undertook a RM33 billion debt restructuring, which saw its creditors write off 99.5% of their debt.

Areca Capital’s Wong points out that the post-pandemic stage of recovery differs between sectors and business models.

“Some manage to recover fast and are indeed doing well. Some are still bleeding, like hospitality. Costs became the main focus recently, with rising wages and cost of goods and services,” he says.

“Automation and technology can mitigate this. Innovation is the key to bringing new revenue, as the market is very dynamic and things are no longer the same post-pandemic.”

According to Bank Negara’s Financial Stability Review for the second half of 2022, while the non-financial corporate sector benefited from improving domestic demand conditions, businesses continued to face a challenging operating environment.

“Input costs in a number of industries rose significantly amid a confluence of factors, including supply-side disruptions, rising global commodity prices due to geopolitical developments, and a weaker ringgit.

“The increase in input costs for businesses weighed on profit margins, resulting in a decline in overall debt servicing ability,” it said.

The central bank pointed out that amid the challenges and uncertainties, businesses have also continued to reduce their overall leverage and maintain stronger liquidity buffers relative to pre-pandemic levels.

It is not all gloom and doom for corporate Malaysia. Some companies had also seen their balance sheets improve since 2019 from net debt to net cash (see Table 3).

Some companies in sectors such as rubber gloves and consumer goods have turned net cash in FY2022 from a net debt position in FY2019.

Companies such as Top Glove Corp Bhd, Kossan Rubber Industries Bhd and Supermax Corp Bhd were sitting on a net cash position of RM271.63 million, RM1.98 billion and RM2.22 billion respectively as at March 31 this year, compared to net debt of RM2.17 billion, RM403 million and RM217.7 million respectively in 2019.

Still, rubber glove manufacturers have fallen into the red since last year, owing to decreasing demand and overcapacity globally.

Meanwhile, companies such as Bermaz Auto Bhd garnered RM437.7 million net cash in March this year, compared to net debt of RM37.5 million in FY2019. Its net profit has also more than tripled in FY2022 to RM303 million, from RM100 million in FY2019, thanks to an exemption on duties to boost consumer demand during the pandemic.

The weakness in the financial positions of corporate Malaysia is reflected in the performance of the FBM KLCI, which has been languishing over the last seven to 10 years, owing to factors such as unexciting corporate earnings growth.

Rising interest rates and a softening economic growth outlook have thrust companies with high debt levels into the spotlight. Under the normalisation of monetary policy, the cost of funds will remain relatively higher in years to come. 

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