Monday, 2 December 2013

Zombie alert!

What evidence is there for the "plague of zombie companies" that is supposedly strangling the life out of the UK economy? My latest at Pieria:
There is a prevalent view that part of the reason for the UK’s slow recovery and poor productivity is the existence of large numbers of companies that should have died in the recession. “Zombie firms in danger of strangling the economy”, screams one newspaper headline. And another warns of the “Zombie businesses spreading like a virus”.
It’s not always clear what people mean by a “zombie company”. The usual definition of “zombie” is one that generates enough cash flow to service its debt but not enough to repay principal, or alternatively one that generates enough cash flow to survive but not enough to grow. But lots of businesses don’t grow. Indeed, the majority of microbusinesses – sole traders and firms with fewer than 9 employees – not only don’t grow but have no desire to do so. Are they zombies? No. They are active economic agents contributing to the economy. We really can’t use the absence of growth as an indication that a company is not viable. Many of these companies happily bump along the bottom for decades.
Indebtedness does seem to be characteristic of zombies.....
Read on here.


  1. Brick says.

    I think you are right to question the claim that zombie companies are strangling the economy, yet I do perceive a problem in some markets. The diagnosis of which is related to zombieness but might be better described as monopolistic opportunities being more abundant during downturns. What I am alluding to is that divisions of companies can be run with negative margins and increasing leverage to increase market share providing a parent company can afford (has access to cheap funding) to run a division at a loss.
    I doubt it is widespread, but when I look at
    1) corporate profit margins after tax being at a record high.
    2) corporate bonds as a percentage of equity market value going up.
    3) debt to EBITDA ratio increases for large firms (10% last year - source S&P Capital IQ)
    compared to medium sized firms (2.4 %).
    I cannot help thinking increasing leverage in large companies (partly due to buyouts) signal increasing monopolistic tendencies. This may be affecting demand through profit margins and wages through restructuring.

  2. Zombie organizations in its problematic guise are rentiers. They're usually productive in nominal terms and they make money. They're zombies because in real terms they aren't productive, and they make money effectively from relationships with other politically powerful organizations, soaking up money and power from more productive organizations. The TEPCO phenomenon in Japan is just when all the makeup is washed off and the corporal entity is transparently compelled to attempt things it should be doing anyways and fails. Debt has a lot to do with it, but only as a marker of whether it is in politically favorable or unfavorable positions. Whether debt becomes necrotic or not is dependent on how much rent it manages to extract from the broader society with the help of other orgs.

    In the UK context, I'd say that a more usefully specific definition of a zombie company simply as a company that gets to audit itself, implicitly or explicitly, and external parties (outside of network) are not allowed to judge the value of that company's production via price discrimination or regulatory obligations. Defined this way, I think it makes clearer that what's going on in the UK is mostly a function of bad pricing information, which corrupts information on just how productive the activity is and what the value added was. If that productivity and resulting growth was good and real, it would have expressed itself in downstream stats quite more logically.

  3. An interesting post with some useful statistics, but I would question your use of them, especially with regard to individual insolvencies.

    First, you can't really say that "Adding in the “hidden” insolvencies gives a failure rate that is actually higher than in the 1990 recession" when the "hidden" insolvency series does not go back to the 1990s!

    Second, the individual insolvencies include IVAs, which really got going in the 2000s because specialist firms aggressively marketed them - I am sure that like me, you have had the phone calls offering something like "a government scheme to free you of debt". Only about a third of individual "insolvencies" are bankruptcies these days. Moreover, you could argue that IVAs are themselves a form of forbearance to some extent.

    Third, you talk about small businesses which "wind themselves up and their owners take the hit in mortgage default and personal bankruptcy". Well, if that is the case, it does not seem to be reflected in the mortgage repossession statistics, which are also much lower than in the 1990s recession:

    I think it is hard to argue that some kind of forbearance is not going on.

    As for the definition of a zombie business, I strongly agree with you that the definition should be fairly restrictive. I am sure that there are many old and valued businesses on British high streets that are making a lot less money than could be made on their site by a more trendy, aggressively managed and ambitious business, but keep going because they own their own freehold and the owner is not looking to make every last penny out of it. If the owner is willing to effectively subsidise that business at their own expense by making less out of their site than they could, that is no concern of mine. To me (like shah8), a zombie company is one which has negative net worth, but is surviving because that situation can remain hidden, which allow the firm and its bankers to essentially gamble for redemption, which without going into the economics much, seems unlikely to be good for the rest of us. I imagine it must be very frustrating for a potential entrepreneur wishing to open a new business seeing the continued existence of an incumbent getting much softer terms on its bank loans than the entrepreneur would get, because its bank does not want to recognise a loss on its loans to the incumbent by pulling the plug. I suspect that unrigorous accounting plays at least as big a part in this as short-term interest rates.

    1. Tim, please read the post properly. These are Experian's statistics, not mine, and I am quoting their use of them.

      The statistics do not support the view that there is extensive forbearance. What has changed is insolvency practice. I mentioned this briefly in the post but I have far more information - two presentations from insolvency practitioners at the conference, among other things. Ben Cairns of Ernst & Young is particularly interesting on this.

  4. Labor productivity is growing faster than GDP. Aggregate demand should be stimulated.

    1. I commented on the wrong post, sorry.