Currency mismatches
/I read an interesting paper the other day that can shed some light on currency risks for Vietnamese companies. The paper (here) by Velentina Bruno and Hyun Song Shin is titled: “Currency depreciation and emerging market corporate distress.” It is a BIS working paper, which is a great resource on a number of topics. I now stan Hyun Song Shin.
Anyway, the thesis is that companies suffer from currency depreciation mainly because of a mismatch in the denomination of assets and liabilities. Let’s start from the basics: If assets are more than liabilities, companies have an equity cushion. The idea is that even if asset values fall, there will be room to pay off the liabilities. And if assets rise, then equity holders benefit.
Some of the biggest liabilities are debt. Companies, even in emerging markets, sometimes borrow in hard currencies. If there is a devaluation, the payments get harder for the companies to keep up with - basically they need to make more VND in order to convert them to the higher value USD and pay back their lenders. They can easily get into distress in the case of a big devaluation.
So why do emerging market companies borrow in USD? Given this, it can be weird for companies to borrow in hard currencies, but they do it for a few potential reasons: 1) hard currencies are helpful when they have to purchase capital goods or supplies in those currencies, 2) hard currency interest rates are generally lower. For example, in Turkey, many companies borrow USD or EUR for something like 6% or so, but to borrow in TRY would cost 11% plus (I haven’t looked at these numbers for a while, but the difference is generally high), 3) the lenders (banks or other financial institutions) want to lend in hard currencies, to match their own liabilities. Another reason posited is that foreign currency debt stems from the lack of monetary credibility (see this paper).
DATA ALL 2018. SOURCE: COMPANY DATA, VIETECON.COM
The differential between foreign and domestic interest rates is true in Vietnam as well. Take Vietnam Dairy: they have loans in VND that are between 5.4% (long-term) and almost 6% (short-term), but their USD-denominated debt is 4.11% and 4.59%. Other companies face a bigger spread.
Assets just as important as liabilities: A key point in Bruno and Shin’s article is that liabilities are what people focus on, but assets are worth a second look. The flip side of USD being cheaper to borrow is that interest income is higher in VND. So companies may stash their excess cash in VND rather than match their liabilities. So the lack of hard-currency cash/assets can be a red flag, if lots of liabilities are in hard currency.
How do Vietnamese companies look? So I wanted to look at a few of the bigger firms in Vietnam to see how they stand. It turns out most of them are actually pretty well situated. I took the five biggest non-banks in the index. You can see the data in the chart at the right above.
One point: the amount of cash held in hard currency was not immediately apparent in financial statements. I believe that almost all of them keep most of their cash in VND, but this is a big caveat that could change my analysis. If cash is held in USD, then currency mismatch doesn’t apply.
Vingroup: The one with the biggest risk is probably Vingroup, because while its cash and investments are matched, it has a large amount of debt in USD (more than 30%). These are likely for its new forays into auto and smart phone manufacturing, both of which can result in higher foreign sales over time. But right now, these USD-denominated debts are a risk.
Petro Vietnam looks bad, because about 70% of its debt is USD-denominated. But the risk is pretty low, because it has lots of cash, and its output can be sold abroad. (I couldn’t find data on foreign sales).
Vietnam Dairy has a little bit less than 30% of its debt in hard currency, which is not a great number. But its foreign sales make up 15% of total sales, and the income from these sales was VND111bn in 2018, compared to USD-denominated debt of VND158bn. So they should be fine.
Saigon Beer has 25% of its debt in hard currency, but lots of cash. Unfortunately, the company has limited foreign sales, so it really needs to be certain that there will not be a massive devaluation. The risk is mitigated by the fact that it is owned by ThaiBev, which may be able to support some of this debt. But that wouldn’t necessarily help other equity holders.
Masan has lots more debt than cash/investments, but most of it is in VND (just 8% is in USD), and it also produces a commodity (tungsten, among other metals) that is sold for hard currencies. Foreign sales make up 17% of total sales at the company.
Basically, Vietnamese companies 1) do borrow in foreign currencies (mostly USD), but 2) balance sheets appear pretty strong, and 3) currency mismatches are not a big issue, at least now. The central bank has benefited from relatively low inflation worldwide. If this ever changes, then we could see pressure to raise interest rates, potentially pushing more companies to borrow in foreign currencies. Then the risk of default would be quite high.
Over time, I would like to expand this analysis to all companies, but that’s going to take time…