The financial health of Chinese corporates had already deteriorated since early 2019 as the US-China strategic competition widened through targeted tariffs to a larger realm of issues, including technology and related sanctions. But the Covid-19 shock constituted an even sharper drag. Not only did the Chinese economy collapse in the first quarter of 2020, deflationary pressure accelerated, hurting corporate revenue and profitability.
A direct consequence of slower economic growth is weaker corporate health. With the tougher headwinds, repayment ability for Chinese firms has weakened because of the sharp decline of income in Q1 2020. Chinese policymakers have reacted first with monetary stimulus, which was tamed from May onward, followed by fiscal stimulus.
What is different between China and the rest of the world is that economic recovery has provided a lifeboat to Chinese firms, which is not the case for global peers.
Beyond the relatively more positive revenue stream from Q2 2020 onward, Chinese firms have also continued to invest while global firms are retreating on capital expenditures. Although the expansion is slower than int the past, capex growth for Chinese firms is still in positive territory.
Still, it comes with an important caveat that most of the capex is stemming from state-owned enterprises. While higher investment is supportive of economic growth, a concern from the expansion is that many of the SOEs are already producing well above capacity, pushing deflationary pressures further.
The countercyclical behavior also means SOEs have further increased their leverage, partially because of the ongoing capex growth and the burden of operational costs. Therefore, financial health has worsened more for Chinese SOEs than for their private counterparts at home. But they still perform better than global peers, which are still struggling with new waves of Covid-19 infections and containment measures.
Within China, the consumer sector is the healthiest of all thanks to a favorable debt situation and higher return on capital. The new economy, driven by such sectors as telecommunications and semiconductors, has also performed relatively well, followed by utilities.
In particular, big improvement is seen in the semiconductor sector compared with 2019, and government support could be a major reason.
At the other end of the spectrum, aviation is the worst sector because of mobility restrictions and the collapse in operating income.
Next worst to after aviation are infrastructure and real estate. Renewables, energy and utilities are among the best sectors compared with global peers, which can be mainly explained by lower leverage.
A different picture
Comparison with the rest of the world shows a different picture. When compared with global peers, Chinese airlines are in a much better position due to the faster recovery in mobility and the resumption of domestic flights.
On the other hand, China’s information and communications technology and semiconductors are clearly trailing their global peers, as far as financial health is concerned.
The wide difference shows the ongoing challenges and risks in China’s semiconductor sector in climbing the technological ladder in the global supply chain, especially with the anticipated sanctions from the US.
All in all, Chinese firms have been hit by the trade war and Covid-19, but they have recovered faster than global peers, which equates to a better relative performance.
Although revenue streams and return on capital have improved for most Chinese firms, debt has continued to pile up while funding costs are moving up again after a sharp reduction at the peak of the pandemic. This is in line with a tighter monetary policy and the perception of higher risk on the back of several iconic defaults, especially for SOEs.
The glass is half full and half empty: Chinese firms have better relative performance versus global peers but with risks piling up as leverage continues to increase on the back of meager but recovering revenue generation.
Alicia Garcia Herrero is chief economist for Asia-Pacific at Natixis. Gary Ng is an economist for Asia-Pacific at Natixis.