Chinese corporates’ relative advantage narrows as global peers enjoy their cyclical recovery from the pandemic

Please see our first report on NATIXIS China Corporate Series 2021. Our results are based on our China Corporate Monitor with a bottom-up analysis of 3,000 largest listed Chinese firms in comparison with global peers.

Together with our expanded sectoral coverage ranging from banks to semiconductors, we offer in-depth analysis on the interconnection between the macroeconomic picture and the related trends in the corporate world.

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The world is bouncing back from the pandemic but in different stages. China was first in recovery and the cyclical growth has peaked. For the rest of the world, especially the US and Europe, the recovery has just begun to gain momentum with strong stimulus. Such shifting patterns of growth will influence both corporate health and asset prices. In this first note of NATIXIS China Corporate Series 2021, we analyze 3,000 largest listed Chinese firms in comparison with global peers.

Using our own measures (debt dynamics, revenue generation and return on capital), we conclude the improvement in Chinese corporate health is more than global peers in 2020, despite the absolute level is still lagging. However, the divergence between China and global peers has narrowed in 2021, especially as the favorable base effect in revenue growth will weaken in China compared to the rest of the world.

Interestingly, there is a divergence between?higher bond defaults in China since 2020?and improving corporate repayment ability. EBITDA-to-interest expense has edged up from 5 times in 2020 to 6 times in Q1 2021, led by deleveraging,?lower interest rates?and rebounding revenue.?Still, the repayment ability in China is lower than global peers (8.5 times) and?credit risk polarization is emerging, meaning the healthiest firms are getting better, but the worst are becoming worse.

On revenue, Chinese firms have taken a smaller hit than global peers. However, profit margins in China have fallen short of the improved income, especially as the downstream sectors absorb the higher producer prices and cannot pass through to consumers. Another divergence is CAPEX, with Chinese firms investing aggressively in the new economy. Part of the reason comes from China’s dual circulation policies, pushing?investment in semiconductors and high-tech sectors.

The pendulum of cyclical growth, the intensifying credit risk polarization and the higher CAPEX are important factors affecting Chinese corporate health and market prices. Corporate bond spreads have spiked for onshore private firms, showing investors are more selective and demand a higher return for the extra risk. Chinese equities performed better than global peers in 2020, but the momentum has been damped by the regulatory crackdown on the tech sector and the narrower growth differential with the developed world.

All in all, corporate health in China has continued to improve, but global peers are catching up. The deleveraging campaign has helped China to reduce financial risks, and rebound is seen in revenue and capex. However, bond defaults are likely to stay for firms with weaker profiles, which can still mean wider credit spreads despite the recent liquidity injection. For equities, the dark cloud of regulations will override the better corporate health until the line in the sand becomes clear.

Full report is available for Natixis clients.