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Chapter 7. GCC Corporate Vulnerabilities1 Impact of the Global Financial Crisis and Post-Crisis Performance

Author(s):
Samya Beidas-Strom, Tobias Rasmussen, and David Robinson
Published Date:
October 2011
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GCC stock markets fell sharply in 2008/09 as spillovers from the global financial crisis—lower oil prices and falling real estate markets—affected the region. While stock markets have yet to recover to their pre-crisis levels, the corporate sector seems to have weathered the crisis well, with profitability recovering strongly in 2010. Balance sheet data on listed companies for the six GCC countries show that corporations did come under pressure in the latter part of 2008 and into 2009, but that these pressures have now eased. Standard vulnerability tests identify risks in some sectors linked to interest rates, but many firms are currently holding large cash cushions that help mitigate such risks.

Introduction

GCC stock markets fell sharply during 2008/9 (Figure 7.1). While direct exposures to toxic assets were probably small, GCC economies were significantly affected by the slowdown in global growth generating a collapse in the oil price (from a peak of $132.6 in 2008 to a trough of $41.7 in 2009), tightened access to international capital markets, falling real estate prices in several countries, and a dramatically altered risk assessment of the region following the debt-servicing difficulties of Dubai World. In such an environment, the corporate sector will be expected to come under pressure, but the GCC region has seen few instances of corporate bankruptcies and very limited recourse to special support for the financial sector (Khamis and others 2010).

Figure 7.1.GCC: Equity Prices, 2006–11

(Index, January 1, 2006=100)

Source: Bloomberg.

The health of the corporate sector during this period can be examined using publicly available information on the balance sheets of listed companies. Using firm-level data, two distinct and complementary approaches are employed in evaluating the vulnerability of the corporate sector—the interest coverage ratio (ICR) based on balance sheet information and Distance to Default (DtD) ratios that combine both balance sheet and equity price data. Stress tests of corporate balance sheets with shocks to borrowing costs and profits are employed to shed light on the potential effect of worsening economic conditions on firms’ financial health. The associated distress indicators have been found to be reasonably accurate (ex-post) in foreshadowing corporate and financial sector distress—for China (Heytens and Karacadag, 2001), Asia Banks Goldman Sachs (1998, 2000), India (Topalova (2004) and Oura and Topalova (2009)), Japan (Harada et al. 2010), Korea (Jones and Karasulu, 2006) and Mexico (Blavy and Souto, 2009).

The aggregate-level analysis shows that some firms came under pressure during the global crisis but positions have subsequently strengthened. The study employs data for 424 listed nonfinancial corporates in the six GCC countries. The analysis suggests that in aggregate the nonfinancial corporate sector in the GCC is in a strong position for debt servicing, with limited vulnerabilities to interest rate and income shocks. Stress tests at the sectoral level identify some susceptibility to interest rate risks, notably the real estate and service sectors in Kuwait and the United Arab Emirates, service sectors in Oman and Qatar, and, in Saudi Arabia, the petrochemical sector, and the agriculture and food sector.

Structure and Performance of the Corporate Sector

Size

Total assets of the 424 listed companies stood at about $631 billion–about 58 percent of the combined GDP of the GCC at end-2010 (Table 7.1). These companies had a total debt of about $166 billion. Corporate leverage is within reasonable limits, with an aggregate debt-equity ratio of approximately 1.5 at end-2010.

Table 7.1.GCC: Corporate Performance, 2007–10(US$ billions)
Net ProfitTotal AssetsTotal Debt
Number201020092008200720102009200820072010200920082007
Bahrain180.780.261.251.127.077.147.587.471.121.381.581.82
Kuwait11324.11.51.17.168.176.678.065.312.422.222.810.3
Oman861.11.11.01.011.610.69.98.73.12.82.92.3
Qatar324.56.04.53.498.576.958.143.328.523.818.812.3
Saudi Arabia10315.710.46.916.1316.5296.5262.716.184.378.966.157.8
U.A.E.530.54.57.86.8128.8126.4116.988.937.033.429.925.2
Total42426.823.822.435.5630.6594.1533.2229.9166.4162.5142.1109.7
Source: IMF staff calculations based on Zawya.

Net profit after unusual items.

Source: IMF staff calculations based on Zawya.

Net profit after unusual items.

Saudi Arabia’s corporate sector is the largest among the six GCC countries in terms of asset size. At end-2010 its 103 listed companies with total assets of $317 billion constituted 70 percent of GDP and 86 percent of bank assets. The United Arab Emirates’ 53 corporations, listed with total assets of $129 billion, constituted 43 percent of GDP and 36 percent of bank assets. Qatar’s 32 listed corporations held assets of $99 billion, constituting 77 percent of GDP and 75 percent of banks’ assets. In Kuwait, the assets of 132 listed corporations stood at $68 billion (51 percent of GDP and 43 percent of bank assets). Oman’s 86 corporations had an asset base of $12 billion, constituting 20 percent of GDP and 36 percent of bank assets. Bahrain’s 18 corporations had the smallest asset base, 7 billion constituting 31 percent of GDP and 13 percent of bank assets.

Profitability

Profits have recovered strongly since 2008, but with some weaknesses in Oman and Qatar, as well as in the real estate sector in Kuwait and the United Arab Emirates. Aggregate corporate profitability increased by over 50 percent in Saudi Arabia during 2010, driven by a near doubling of profits in the petrochemical sector—by far the largest individual sector—reflecting higher prices and sales volumes (Table 7.2). In Kuwait, the profitability of the corporate sector improved in 2010, notwithstanding the continued drag by the real estate sector. The improved performance was largely owing to an increase of about 150 percent in the profits of the industrial and service sectors. It is noteworthy that most sectors in the GCC countries recorded profits in both 2009 and 2010–losses were limited to real estate sectors (Kuwait and the United Arab Emirates), industry (Bahrain) and services (United Arab Emirates).

Table 7.2.GCC: Sectoral Corporate Performance Analysis by Country, 2008–10(US$ billions)
Net ProfitTotal AssetsTotal Debt
201020092008201020092008201020092008
Bahrain
Industry0.37–0.190.793.623.794.141.061.241.45
Hotel and tourism0.060.050.060.510.440.400.020.000.00
Service0.360.410.412.932.923.040.040.130.13
Kuwait1
Food0.20.20.12.82.72.80.40.50.7
Industrial0.30.1–0.25.85.35.41.95.26.2
Real estate–0.4–0.4–0.322.024.125.15.04.43.9
Service4.01.61.437.544.544.85.112.112.1
Oman
Industry0.30.20.22.52.02.10.60.40.6
Service0.70.80.89.18.67.92.62.42.3
Qatar
Industry2.11.82.415.913.613.23.73.02.9
Service2.54.32.182.763.244.924.820.816.0
Saudi Arabia
Petrochemicals8.63.17.6146.0136.6117.655.452.539.5
Cement1.01.01.17.16.76.31.00.80.6
Industrial investments0.70.80.818.716.614.32.92.12.1
Agriculture and food0.70.60.410.19.58.01.41.41.3
Retail0.30.30.22.32.01.80.10.10.1
Energy and utilities0.60.30.351.344.839.18.15.95.4
Telecommunication and IT2.93.23.246.544.941.011.712.012.2
Multi-investment0.20.1–8.013.315.415.43.30.00.0
Real estate development0.40.60.714.913.913.20.01.51.1
Construction0.00.10.11.31.21.20.20.20.2
Transportation0.20.10.23.43.53.30.00.00.0
Tourism0.00.10.00.50.50.50.00.00.0
Media0.00.00.10.90.91.00.00.00.0
U.A.E.
Transportation2.553.043.0336.0634.6030.644.113.553.43
Real estate–3.341.473.8152.5859.5156.5810.1611.488.44
Service1.25–0.060.9340.1432.3129.6422.7418.3818.02
Source: IMF staff calculations based on Zawya.

Net proft after unusual items.

Source: IMF staff calculations based on Zawya.

Net proft after unusual items.

Corporate Vulnerability Analysis

Interest coverage ratios

At the aggregate level, the interest coverage ratios (ICRs) point to comfortable levels of debt servicing capacity (Table 7.3). The ICR is defined as earnings before interest and taxes over interest expenses, and measures a firm’s debt-servicing capacity. Firms with ICRs below 1 are unable to generate enough income to cover interest payments, and their debt is classified as distressed. At an aggregate level, the ICR for 2010 was 6.0, signifying that the corporate sector’s interest-servicing capacity is comfortable. The ICR ranged from a high of 34.9 for Bahrain to a low of 2.8 for the United Arab Emirates. When cash cushions are taken into consideration, the ICRs improve substantially in all countries.

Table 7.3.GCC: Interest Coverage Ratio, 2010
NumberTotal

Assets
Cash

Cushions
Total

Liabilities
Operating

Income
Interest

Expense
Short-term

Debt
Total

Debt
Interest

Coverage

Ratio
ICR

w/Cash
Average

Interest

Rate1
Bahrain187.10.72.30.80.00.11.134.965.42.1
Kuwait13268.15.929.03.00.93.512.43.29.67.4
Oman8611.60.95.51.10.20.63.17.613.34.8
Qatar3298.514.756.24.61.50.428.53.113.15.2
Saudi
Arabia103316.524.9154.327.22.52.784.210.820.83.0
U.A.E.53128.811.074.95.52.04.637.02.88.35.3
Total424630.658.0322.142.27.111.9166.46.014.24.2
Source: IMF staff calculations based on Zawya.

Average interest rate = interest expense/total debt*100.

Source: IMF staff calculations based on Zawya.

Average interest rate = interest expense/total debt*100.

The extent of risk, however, varies markedly by sector and by country, with overall ratios masking important differences (Table 7.4).

Table 7.4.GCC: Financial Performance Analysis by Country, 2010(US$ billions)
Total

Assets
Cash

Cushions
Total

Liabilities
Operating

Income
Interest

Expense
Short-term

Debt
Total

Debt
Interest

Coverage

Ratio
ICR

w/Cash
Average

Interest

Rate1
Bahrain
Industry3.60.21.70.40.00.01.119.928.41.9
Hotel and tourism0.50.10.10.00.00.00.031,724.0102,156.00.0
Service2.90.40.60.40.00.00.0120.0263.18.2
Kuwait
Food2.80.20.80.20.00.20.45.512.28.8
Industrial5.80.42.30.20.10.51.92.68.13.5
Real estate22.00.711.20.20.30.95.00.73.06.6
Services37.54.514.62.40.51.85.14.814.19.6
Oman
Industry2.50.20.90.20.00.30.611.720.83.4
Services9.10.74.50.90.10.42.66.912.25.1
Qatar
Industry15.91.95.51.80.10.43.724.049.42.0
Services82.712.850.72.81.40.024.82.011.15.6
Saudi Arabia
Petrochemicals146.017.474.612.61.30.455.49.422.42.4
Cement7.10.21.51.00.00.01.0120.6145.60.8
Industrial
investments18.71.28.10.70.10.92.99.426.72.5
Agriculture and
food10.10.44.70.70.00.61.4
Retail2.30.81.40.30.00.00.128.3102.77.1
Energy and
utilities51.31.931.40.60.00.08.1
Telecommunication and IT46.51.923.23.80.80.711.74.66.97.1
Multi-investment13.30.54.14.10.10.13.336.640.83.4
Real estate
development14.90.43.13.10.00.00.0
Construction1.30.00.70.10.00.00.222.931.31.9
Transportation3.40.11.40.10.00.00.07.712.0
Tourism0.50.00.00.00.00.00.0
Media0.90.00.20.00.00.00.08.615.2
U.A.E.
Transportation36.14.714.42.20.30.34.16.821.37.9
Real estate52.63.529.81.00.54.110.22.29.94.5
Services40.12.730.62.21.20.322.71.94.25.2
Source: IMF staff calculations based on Zawya.

Average interest rate = interest expense/total debt*100.

Source: IMF staff calculations based on Zawya.

Average interest rate = interest expense/total debt*100.

  • Saudi Arabia: At end-2010, just 12 out of 103 firms had either operating losses or an ICR below 1 (two of them in the top 15 companies by asset size), their combined debt accounting for about 19 percent of total debt of firms. These companies, however, had adequate cash and cash-equivalent balances to service their current interest payments. The share of these corporations’ assets in total assets was 13 percent. These companies are performing at healthier levels in 2010 than in 2009, partly reflecting a decrease in total debt (by 23 percent) and total liabilities (by 20 percent).
  • Kuwait: The resilience of the corporate sector improved in 2010. Corporate sector leverage has improved on account of a decrease of 44 percent in total debt and 9 percent in total assets in 2010. This decrease in total debt was not observed in the weaker segments where the level of debt of the companies with ICRs below 1 has increased. By sector, 37 companies—4 industrial (5 percent of total debt), 19 real estate (29 percent of total debt), and 14 service (17 percent of total debt)—out of the 132 listed companies had ICRs below 1 or operating losses, compared to 31 companies in 2009. These companies accounted for 51 percent of the total debt of the listed companies in 2010 as opposed to a share of 39 percent of total debt in 2009.2 When cash cushions are included, the overall corporate sector performance improves substantially; 17 companies out of the 132 listed companies had ICRs below 1 or operating losses, compared to 15 companies in 2009.3 These companies accounted for 12.5 percent of the total debt of the listed companies compared to a share of 7 percent of total debt in 2009.4
  • Qatar: Two (one industry sector and one service sector) out of the 32 listed companies have ICRs below 1 or operating losses, with their debt accounting for 0.5 percent of the total debt.
  • Oman: 19 (five industry sector and 14 service sector) out of the 86 listed companies have ICRs below 1 or operating losses, with their debt accounting for 7 percent of the total debt.
  • Bahrain: One (one industry sector) out of the 18 listed companies has operating losses, with their debt accounting for 0.9 percent of total debt.5
  • United Arab Emirates: 10 (five real estate sector, three service sector, and two transportation sector) out of the 53 listed companies have ICRs below 1 or operating losses, with their debt accounting for 12 percent of total debt. (Table 7.5).
Table 7.5.GCC: Extent of Risk by Country, 2010(US$ billions)
Companies

w/ICR <1
Percent of

Total Debt
Total

Assets
Total Debt
Saudi Arabia12 of 10319.0316.584.2
Kuwait37 of 13251.068.112.4
Qatar2 of 320.598.528.5
Oman19 of 867.011.63.1
Bahrain1 of 180.97.11.1
U.A.E.10 of 5312.0128.837.0
Source: IMF staff calculations based on Zawya.
Source: IMF staff calculations based on Zawya.

Stress testing—interest rate and income shocks

Stress tests applied to ICRs show limited aggregate risks from interest rate and income shocks. The interest-paying capacity of the companies was stressed by increasing short term interest rates by 200 and 500 basis points from current levels, and by assuming a negative income shock of 25 percent:

  • Even with a 500 basis points increase, the ICRs would remain above 1 at an aggregate corporate sector level for all the countries (Table 7.6). The number of companies with ICRs below 1 will increase, as expected, but not enough to suggest pressures on any of these countries’ corporate debt-servicing capacity. Furthermore, when taking into account cash cushions, the outcomes are even more positive.
  • Income shocks—a 25 percent decline—also do not point to debt-servicing pressures at the aggregate level (Table 7.7).
Table 7.6.GCC: ICR Performance Under an Interest Rate Shock, 2010
200 bpts500 bpts
ICRICR w/cashICRICR w/cash
Bahrain17.925.57.914.7
Kuwait2.57.61.95.7
Oman5.39.43.76.5
Qatar2.29.81.66.9
Saudi Arabia6.612.44.07.8
U.A.E.2.034.70.10.3
Source: IMF staff calculations based on Zawya.
Source: IMF staff calculations based on Zawya.
Table 7.7.GCC: Income Shocks, 2010(25 percent fall/increase)
ICRICR w/cash
Bahrain26.248.9
Kuwait2.47.2
Oman5.69.9
Qatar2.33.3
Saudi Arabia8.115.6
U.A.E.2.16.3
Source: IMF staff calculations based on Zawya.
Source: IMF staff calculations based on Zawya.

At the sectoral level, some vulnerabilities emerge. Despite fairly strong corporate balance sheets, higher interest rates and lower incomes could imply a much lower buffer against distress. Some sectors could face debt servicing problems if interest rates increase and their cash balances are depleted. For instance, if interest rates increase by say 200 to 500 basis points, or if these corporations face a revenue shock of, say, 25 percent, then debt servicing pressures could arise. These difficulties could affect the real estate and service sectors in Kuwait and the United Arab Emirates; service sector in Oman and Qatar; and the petrochemicals, and agriculture and food sectors in Saudi Arabia. Specifically:

  • In Kuwait, for the industrial sector an increase of 500 bpts will cause two additional companies (accounting for an additional 7 percent of total debt) to have ICRs below 1. In the case of real estate sector, an increase of 500 bps will cause two additional companies (accounting for an additional 3 percent of total debt) to have ICRs below 1. For the service sector an increase of 500 bps will cause six additional companies (accounting for an additional 4 percent of total debt) to have ICRs below 1.
  • In the case of Oman, for the industry sector an increase of 500 bpts will cause two additional companies (2 percent of total debt) to have ICRs below 1. A 500 bpts increase in interest rates would bring the ICRs below 1 for three more companies (accounting for 24 percent of total debt) in the service sector.
  • In the United Arab Emirates’ real estate sector an increase of 500 bpts will cause four additional companies (18 percent of total debt) to have ICRs below 1. A 500 bpts increase will cause one additional company in the service sector (2 percent of total debt) to have ICRs below 1.

Distance to Default

Distance-to-default (DtD) measures the extent to which a firm’s total assets (at market value) need to fall for it to default within a year, given its current balance sheet position.6 For an individual firm, default occurs when the value of equity reaches zero. According to the methodology used in this analysis, a firm defaults when the market value of its assets falls short of its debt liability, or alternatively the market value of its equity falls to zero.7 The DtD calculation is derived from “inverting” the Black Scholes Merton (BSM) model. The BSM model is most often used to price a derivative asset (e.g., a call option) as a function of the probability of events.8

The DtD calculations show that the banking and nonfinancial corporate sectors did come under pressures during the latter part of 2008 and into 2009, but that in most cases risks have reverted to pre-crisis levels (Figure 7.2). The results indicate that even though these sectors were affected by the global financial crisis, default risk remains low, signifying that banks and corporations in the GCC countries are generally well cushioned to withstand shocks. As expected, DtD and equity values are closely correlated—a high equity value implies that markets are assigning a strong probability that the future value of assets exceeds the company’s debt.

Figure 7.2.GCC: Distance to Default of Banks and Nonfinancial Corporations, 2008–10

Sources: RATS; Bloomberg; and IMF staff calculations.

Figure 7.2. (concluded)

Sources: RATS; Bloomberg; and IMF staff calculations.

Concluding Remarks

The nonfinancial corporate sector in the GCC countries has weathered the global crisis well. Near-term risks, derived from both stress tests of interest rate coverage ratios and distance to default calculations, appear manageable at the aggregate level, particularly when the large cash cushions currently held by many corporations are taken into consideration. Certain sectors—and individual entities—are, of course, more exposed than others.

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1Prepared by Renas Sidahmed.
2In 2009, 30 out of 110 companies had ICRs below 1 or operating losses; 8 industrial (18 percent of total debt), 10 real estate (12 percent of total debt), and 12 service (8 percent of total debt).
3By sector – One industrial (0.1 percent of total debt), nine real estate (9.7 percent of total debt) and seven service (2.7 percent of total debt).
4Taking into account cash cushions, in 2009, 15 out of 110 companies had ICRs below 1 or operating losses; 4 industrial (1 percent of total debt), two real estate (2 percent of total debt), and nine service (4 percent of total debt).
5The data for Bahrain reflects only those companies that are currently listed on the Bahrain stock exchange, which therefore explains the outstanding performance. It does not reflect those companies that have been removed from public listings; United Paper Industries and Securities & Investment Co.
6DtD=log(A)log(B)+[μ(σA2)]σAA = assets, B = debt, σA = standard deviation of asset return, μ = expected return.
7Total liabilities have been used for the purpose of this analysis.
8To calculate probabilities of default, Merton (1974) assumed that a company’s equity is a call option on its assets (the equity has value only if the value of assets exceeds that of debt) and provided the formula needed to back up the probability of default from the value of equity and the volatility of the equity price.

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