Debt restructuring and recapitalisation: financial and economic implications

Abstract

Recent research findings suggest that an important but overlooked contributory factor to the "Asian miracle" prior to the 1997 crisis was corporate dynamism. Corporates in the high-growth Asian countries were generally viewed as very competitive and skilled at exploiting new market opportunities. Economic growth was boosted when many corporates embarked on high rates of investment. Internal financing constraints to aggressive expansion were overcome through external borrowings. Since the capital markets were relatively underdeveloped, much of the firms' external financing needs were met by the banking system. When the financial markets were rocked by sharp currency depreciation, large foreign capital withdrawal, escalating interest rates and plunging asset values, corporate and banking distress became evident and the consequent sharp contraction in bank lending and business investment in turn exacerbated the economic downturn. These generalisations for the Asian financial crisis vary for each affected countries. Understanding the individual country variations will help us to better evaluate the importance of corporate and banking restructuring in each country. Following the sharper than expected rebound in most of the affected economies in 1999, market focus has shifted to growth sustainability and a key concern is the extent of 'real' corporate and bank sector adjustments. For Malaysia in particular these issues have assumed greater prominence possibly because of the seemingly less painful adjustments experienced by Malaysian corporates and banks. In this paper, we will discuss these facets of restructuring by first examining the nature and magnitude of corporate and banking distress in Malaysia. Their impact on the economy and the channels or mechanisms through which the effects are transmitted are then discussed. We note the importance of initial conditions and the nature of shocks in assessing the strategies and policies for managing distressed corporates and banks. Initial conditions such as corporate balance sheet strength and adequacy of legal and regulatory framework and market infrastructures are important considerations in managing the adjustment process. We then discuss more complicated issues such as the allocation of debt burden or losses among debtors, creditors, and the government, and the extent of adjustments that are still needed. Lessons from the financial distress and restructuring process are then summarised in the concluding section.