Policy measures aimed at assisting troubled but viable businesses as pandemic supports wind down and debts fall due need to be targeted, scalable and equitable, new research from the Central Bank suggests.
The study also estimates that as many as 5,000 businesses that are currently in operation are in financial distress and unlikely to recover, while a similar number are also in difficulty but are likely viable.
The Central Bank paper finds future measures to help firms must be targeted to ensure those with viable economic futures can restructure rather than be forced into liquidation.
"The continued provision of support to unviable firms is a costly exercise for the exchequer where public funds are utilised, while the assets and labour tied up in unviable firms could be better utilised elsewhere in the economy," the paper states.
"Public perception of a poor allocation of scarce resources, whether that is providing support to businesses with no reasonable prospect of recovery or to those which no longer require assistance, is also undesirable," it says.
They must also be capable of dealing with potentially large numbers of firms without the need for lengthy consideration or primary legislation, it adds.
Authors Fergal McCann and Niall McGeever also outline that any policy actions must not leave firms that have been meeting their liabilities throughout the pandemic at a relative disadvantage.
"For example, the forgiveness of deferred tax liabilities may be considered objectionable by those who paid tax throughout the pandemic, and by many in the public at large, if it leaves those companies who paid their taxes on time at a relative disadvantage," the study claims.
Previous Central Bank research found that around 4% of Irish businesses or 10,000 firms may have remained financially distressed coming into this year because of the impact of the Covid-19 pandemic.
"However, the unwinding of pandemic supports and the onset of inflationary pressures are likely to expose the full level of latent distress in the economy, with indicative evidence that insolvency rates are indeed beginning to rise from their extraordinarily low level," today's paper states.
"The level of latent distress yet to crystallise is potentially large."
A large cohort of businesses continued to utilise Government supports well into this year and over 20,000 were still in receipt of wage subsidy payments in April, which was its final month of widespread operation.
"Through the removal of these schemes and other ancillary supports, firms that remain financially weak despite the reopening of the economy will no longer be able to maintain their liquidity through cash grants and government-supported access to finance," the study predicts.
"They are now likely to be encountering payment demands on trade credit, rental arrears, current tax liabilities, and from 2023, deferred tax liabilities," the Central Bank states.
The bank's models estimate 3-4% of SMEs were financially distressed as a result of the pandemic at end of last year and 2% are likely to still be distressed even under a baseline macroeconomic recovery out to 2024.
"In magnitude terms, this 2% would represent an estimated five thousand businesses that are currently in operation, in financial distress, and unlikely to recover, while another estimate five thousand businesses are in financial distress and likely viable, if appropriate restructuring of liabilities can be achieved," it says.
The research also backs the Small Company Administrative Rescue Process (SCARP) as a low-cost way of restructuring liabilities and dealing with multiple creditors.
But it also highlights possible risks associated with a widespread and rapid adoption of SCARP, including system capacity constraints, legal challenges by creditors and difficulties for small firms in funding the professional fees.
It also points to the importance of full participation by all creditors, given Revenue has an opt-out clause.
Meanwhile a second paper produced by the Central Bank, which looks at the use of Covid-19 wage subsidies by Irish firms, finds that at the peak in mid-2020, 30% of companies were claiming them.
However, by the end of March this year, that figure had fallen to 10%.
The research by Derek Lambert, Niall McGeever, and Eoghan O'Brien outlines how claimants who continued drawing the subsidies for longest tended to be more highly leveraged and had lower levels of liquidity before the pandemic began.
"Persistent claimants were relatively vulnerable entering the crisis, irrespective of the scale of the shock they received," the research says.
"Our findings are suggestive that viability assessment will be necessary for some persistence claimants going forward," it adds.
The study finds just over a third of claimants claimed supports at the start of the pandemic in 2020 but did not continue, around the same number transitioned off the payments in 2021 and a quarter continued using them into this year.
"The first group recovered from the pandemic shock quite quickly, the second more gradually, and the third group were dependent on the subsidy for a much longer time period and may be more vulnerable in a post-supports environment," it says.
On a sector-by-sector basis, accommodation and food, and other services were the two groups that made up the largest chunk of total claimants.
60% of accommodation and food businesses claimed the supports at some time between 2020 and March of this year, with 37% still claiming them at that stage.
The authors find that while the wholesale and retail sector were initially considered a vulnerable sector to the pandemic shock, they experienced a relatively quick recovery.
Around a quarter of what was owed to retail banks by non-financial businesses was owed from companies that were claiming the subsidies in the middle of 2020.
Among non-bank lenders, this was close to 33%.
Around 9% of corporate loan balances at the retail banks are owed by borrowers who were still claiming the wage subsidy in the first quarter of this year, compared to 7% of loan balances at non-bank lenders.
"The withdrawal of the wage subsidy scheme, as well as the withdrawal of tax warehousing and the Covid-19 Credit Guarantee Scheme and the resumption of repayment demands on loans and other liabilities, will test the resilience of SMEs with poor pre-pandemic profitability and pandemic-related balance sheet damage," the paper states.
"Inflation is likely also adding to the difficulties facing vulnerable firms," it adds.
