Companies are going out of business like it's 2010 all over again
Corporate bankruptcies have spiked this year—a trend that seems poised to continue as rising costs eat away at consumer spending. According to S&P Global Market Intelligence, more than 450 major businesses have gone belly up so far in 2023.
That’s higher than the total number of businesses that failed in each of the previous two years. It's also the highest single-year for bankruptcy filings since 2010.
As borrowing costs skyrocket, businesses are struggling to keep up with their debt burdens. Corporate debt currently sits at $13 trillion, the highest figure on record.
Until this year, “we’ve been in an environment of incredibly lax credit, where, frankly, companies that shouldn’t be tapping the debt markets have been able to do so without limitations,” said Mark Hootnick, co-head of capital transformation and debt advisory at Solomon Partners.
But now that interest rates have risen, businesses are paying the price. The total interest bill for all U.S. corporations has climbed to more than $17 billion, a 31% increase from 2022.
As failures of household names like Bed Bath & Beyond show, this issue isn’t just limited to the boardroom.
Bankruptcies leading to store closures
Corporate bankruptcies might seem like a topic for Wall Street, not Main Street, but increased bankruptcies this year are leading to service disruptions for everyone.
In January, Party City closed nearly 800 stores as part of its bankruptcy process. In April, discount retailer Tuesday Morning shuttered all its stores after filing its second bankruptcy in three years.
Consumer goods companies have been some of the hardest hit this year. According to James Gellert, CEO of Rapid Ratings International, retail companies have struggled because they are on the front line of consumer spending.
People are spending less due to inflation, with disposable income stagnating. As a result, some of their favorite stores are closing up shop.
“Consumers will find that some brands are either unable to maintain their businesses or are having to change their business models,” Gellert said.
But when a major brand goes bankrupt, it’s not quite the same as when a local store goes out of business.
Often, a strategic buyer can bring a brand back from the dead. That’s exactly what happened to Bed Bath & Beyond. Overstock.com, a major online retailer, changed its name to Bed Bath & Beyond after purchasing the bankrupt company at a discount.
That’s one of the few bright spots of corporate bankruptcies. They can result in legacy companies better serving customers by changing their business models for the modern world.
Some reasons for optimism
Despite the gloom of bankruptcy, there are some reasons to be optimistic about the future of Corporate America.
The difference between the interest rate that companies pay and the rate the government pays has fallen over the course of 2023. That suggests the market thinks companies are actually less risky to lend to in the future.
In addition, higher interest rates are not a one-way street. While companies are paying more in interest, they’re also earning more.
In a research memo, Guggenheim Investments noted that overall interest expenses may have declined when factoring in recent gains on cash-like investments.
“We estimate that U.S. non financial corporates are earning a record $171 billion in interest income from cash, Treasury, and Agency debt holdings, up $102 billion in interest earned from the same assets last year,” its team said.
In what was a welcome reprieve for indebted companies, the Fed paused interest rate hikes at its September meeting. That could indicate calmer waters on the horizon.
But while companies may be able to survive the rest of this year, 2024 could bring some unpleasant surprises.
Recession could accelerate bankruptcies
Despite some encouraging signs, most of the data shows the economy continuing to slow.
The unemployment rate ticked up in August, and inflation accelerated to 3.7% from a year ago—up from 3.2% in July.
Economists are already expecting a recession to occur in 2024, which could cause bankruptcies to accelerate next year.
Of course, aware of this risk, policymakers may try to support the economy as it starts to falter. The Biden administration has already passed trillions of dollars in fiscal stimulus to kickstart growth.
By virtue of its accelerated hiking cycle, the Fed has also given itself extra firepower to lower rates if it needs to.
But some economists think rising corporate bankruptcies are exactly what the Fed wants to see. Torsten Slok, chief economist at Apollo Global Management, says that rising rates are designed to slow the economy by restricting the flow of credit.
Due to high rates, businesses aren’t able to secure new loans and are pushed into default. "In other words, monetary policy is working exactly as it was intended," Torsten said.
Americans will hope that the Fed changes course before its policies lead to more serious economic damage. Until then, economists remain divided on the path the Fed takes heading into 2024.