Cheap funding costs a boon for French firms

PARIS Fri Apr 11, 2014 7:37am EDT

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PARIS (Reuters) - As economic prospects in western Europe improve, French companies whose shares are still reeling from the euro zone debt crisis are enjoying rock-bottom financing costs, a boost to their bottom lines that has yet to be fully reflected in their stock prices.

The flood of cheap money on offer to French firms will also likely be a trigger for a boom in corporate activity, from takeovers to capital spending and share buybacks, as the country's economic rebound gains pace, analysts said.

French firms have been able to borrow at rates only slightly higher than in Germany, and much lower than in Spain or Italy, reflecting the low rates on French sovereign debt and as French banks have passed on the European Central Bank's (ECB) record low rates to the corporate sector.

Data from the ECB shows that on loans of more than 1 million euros ($1.4 million), there's a difference of about 100 basis points between what French companies pay and what Spanish and Italian firms pay. The spread is even bigger, around 200 basis points, on smaller loans.

German companies, in comparison, pay about 10 basis points less than French companies for loans bigger than 1 million euros.

"Basically, where a French company pays 3 percent on a five-year loan, a Spanish company pays 4.5 to 5 percent. It gives French firms a big competitive advantage," said Mathieu L'Hoir, strategist at AXA Investment Managers, which has 547 billion euros ($755 billion) under management.

French companies big enough to have easy access to capital markets have rushed to lock in low interest rates in debt markets, where they have been able to borrow at cheaper rates than from banks, according to Bank of France data.

BOOSTING THE BOTTOM LINE

Among the most striking evidence of how credit spreads have fallen dramatically in France, Suez Environnement (SEVI.PA) in February issued a convertible bond bearing no coupon, which means the bond maturing in 2020 will bear no interest at all.

Also in February, carmaker Renault (RENA.PA) sold 500 million euros of seven-year bonds, rated Ba1/BB+ by credit agencies, with a 3.125 percent coupon - drawing a whopping 6.2 billion euros of orders - less than six months after it sold 600 million euros of shorter five-year bonds carrying a 3.625 percent coupon, signaling a sharp drop in financing costs for the automaker.

Late last year, French utility EDF (EDF.PA) sold 1.4 billion euros of bonds with a maturity of seven-and-half years with a coupon of 2.25 percent, a sharp contrast with a 10-year bond EDF sold in 2009 which had a coupon of 6.5 percent.

Given the company's interest expenses of 2.4 billion euros for 2013 on total debt of 65.7 billion euros and its net income for the year of 4.1 billion euros, a 10 percent fall in interest expenses as the company refinances debt at much better rates would lift net profit by 5.8 percent, even if revenue remains flat.

"The low financing costs have been a boost for French companies. Nominal rates are extremely low historically," AXA IM's L'Hoir said. "Capital-intensive sectors with big infrastructure costs such as utilities and telecoms are among the companies that benefit the most from the drop in financing costs."

However, the borrowing binge has left French firms with a hefty debt burden, hovering near record highs just below 70 percent of the country's GDP, according to the Bank of France data.

Economists warned that this could pose a refinancing challenge several years down the line when interest rates start rising. For the short to medium term, however, the issue is not seen as a risk, as companies take advantage of lower rates to gradually refinance their debt and dramatically lower interest expenses.

According to data from ratings agency Standard & Poor's, about $4.1 trillion of European financial and non-financial corporate debt is set to mature between 2014 and 2018, of which about $675 billion will be for French companies - the biggest single-country amount.

By comparison, Germany has about $550 billion of corporate debt maturing before end-2018, and around $375 billion each for Italy and Spain, S&P data shows.

CAC 40 LAGGING

But while corporate credit conditions in France are favorable, French stock prices are still far from their peak of 2007, trading at valuation ratios in line with euro zone peripheral markets, even as Germany's benchmark DAX index .GDAXI has recently hit a record high.

France's CAC 40 .FCHI still needs to rise 40 percent to reach a peak hit before the start of the global financial crisis in 2007-2008 and French stocks trade on average at a price-to-book ratio of 1.53, similar to Spanish and Portuguese companies.

One of the reason for French stocks' underperformance versus German shares, analysts note, is French companies' weaker margins, the lowest in the euro zone, according to data from Eurostat. But margins are set to improve with 30 billion euros in payroll tax cuts the French government plans over 2015-2017.

Meanwhile cheaper funding costs are already having other effects.

Beyond their positive impact on balance sheets and indirectly on companies' return on equity, the lower cost of capital has started to fuel corporate activity.

A recent upturn in M&A in France has included Numericable's (NUME.PA) successful bid for Vivendi's (VIV.PA) SFR unit, a deal backed by 16.5 billion euros of debt financing - a sum exceeding the debt backing leveraged buyouts of U.S. companies Heinz and Dell last year.

"The very low rates paid by companies is a serious boost for M&A and you already see it in France," said Xavier Lespinas, head of equities at Swiss Life Banque Privee. "This will prompt more and more companies to make bold moves."

($1 = 0.7234 Euros)

(Additional reporting by Robert Smith in London and Alexandre Boksenbaum-Granier in Paris; Editing by Andrew Callus and David Holmes)

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