Signs You Are A Zombie

As the Western World leans into the second wave of Covid-19, the economic repercussions of the virus and our collective response to it are suddenly a present matter. It is more than a year since KPMG sounded the horn on Zombies in the UK, and since then rather a lot has happened. Cineworld just shuttered 127 UK sites, ironically due to the postponement of ‘No Time To Die.’ The Guardian cites estimates that a third of employers are readying to make layoffs as the furlough scheme ends this month. British Chancellor/Corporate-Clark-Kent, Rishi Sunak, estimates the taxpayer can expect to eat up to £23bn of bad loans issued under the Bounce Back Loan scheme (being the high end of their 35–60% estimate on a £34bn lend to date).

This has not, unfortunately, been a ‘one and done,’ interruption, and the prospect of the vaunted ‘V-shaped’ recovery looks increasingly thin. The real challenge is yet to come of course, when protections against/accepted delays of debt repayments start to fall away. Concessions from landlords, HMRC and trade creditors can only last so long. The long-term suppression of activity will strain repayments and the lack of capital for reinvestment will affect long term growth.

This all comes after more than a decade of record low interest rates. Net debt in the UK’s listed Companies has risen for 8 years in a row. Small wonder when interest payments are tax deductible and dividends draw income-tax but share buybacks do not (mostly).

So we enter the age of the Zombie — a fitting moniker for what they represent. A Zombie is a company that is alive, but certainly not in the way that David Bowie might have use the term. A Zombie is stuck in a cycle of moribund existence, where it exists only to keep existing. There is no prospect of bigger and better things. There is no next phase. There is just the reinputting of the numbers and averting disaster for another month, again and again and again. Creation of long term value is off the table. To be more specific:

Zombies cannot support repayment of debt principal

This is the strict definition. Simplistically, a Zombie cannot eat away at principal amounts borrowed, so interest payments never get smaller, so free cash never increases, so they cannot eat away at the principal borrowed. Technically, these Companies will have debt service ratios of less than 1:1.

This definition is clear but slightly problematic as it speaks very narrowly of a point in time. A Company may be on the way into, or out of, Zombie status and there must be indicators that this is happening also.

Not being a Zombie relies on things returning to ‘normal’

If a Company is able to repay its debts but only if things return to ‘normal,’ then this is likely a leading indicator of Zombie status. Normal is gone, forever. Whether it is a changing tax environment, permanent shifts in consumer behaviour, permanent shifts in employee behaviour, or something as trifling as Brexit, the heady days of early 2020 are gone. If you are ‘hunkering down and waiting it out,’ you are losing valuable time.

Not being a Zombie relies on ‘somebody’ to give you a break

If a Company requires a bail-out, or a concession, or a buy-out, or for someone else to act contrary to their interests for them to be able to repay their debts, they are likely a Zombie. While this may seem unfair, it is perfectly possible for a Company to find itself a Zombie unexpectedly when, for example, Peoples’ Champion/Hedgie-Hulk-Hogan Rishi Sunak makes a sudden or unexpected change to the status quo.

Other Tell-tale signs

Some other quick fire indicators that a Company is in or on track to be a Zombie include:

• Waving off underperformance as something that just happens
• Fixation on pre-existing goals / failure to create new targets
• Survival through financial reengineering only
• Nostalgic corporate messaging

So what?

The beginning of wisdom, as Confucius would tell us, is to call things by their right names. Zombie firms constitute a health crisis for the rest of the Economy, and in a pre-crisis world were mainly vilified for crowding out healthy companies and stifling innovation and productivity. To serve as an extreme example only — imagine you’re on a desert island with food enough for five but six people in total. What do you do with the one person who has three broken legs and incurable cooties, and will never be productive in achieving rescue?

Happily, there are plenty of ways to de-Zombify. Unhappily, many of them are painful.

I look forward to talking about those at a later date.