Risky Debt

The Disastrous SME Bond

tractor KTG Agrar
Wheat harvesting with equipment owned by KTG Agra, a company that became insolvent in July.
  • Why it matters

    Why it matters

    Germany’s SME bond segment attracted companies with poor credit ratings that could no longer qualify for bank loans. Investors may have believed that their issuers were reliable and creditworthy companies, but many of these bonds are now failing.

  • Facts


    • Since 2010, investors have invested more than €6 billion in 144 bonds in Germany’s small- and medium-sized business sector, known as the Mittelstand.
    • Consulting firm Capmarcon estimates that more than 27 percent of the bond volume placed with investors is “performance-impaired.”
    • More than one in eight of the currently outstanding Mittelstand bonds is being quoted at less than 50 percent.
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It was the most spectacular insolvency among the issuers of so-called “Mittelstand” bonds this year. In early July, German agricultural group KTH Agrar was forced to file for bankruptcy after failing to make an interest payment of €17.8 million ($19.8 million) due the previous month.

The scandal has widened since then: Investors are worried about the more than €340 million they had invested in two other bonds issued by the publicly-traded company. Its subsidiary KTG Energie, which also has a bond outstanding, was not directly affected by the insolvency. Yet its head Thomas Berger was forced to resign on Tuesday.

The KTG Agrar insolvency is just one case in a wider drama playing out in Germany’s debt market for small and medium-sized companies. The once-vaunted reputation of Germany’s “Mittelstand,” the name given to small businesses here, is taking a serious hit in the process.

According to a study by consulting firm Capmarcon, investors have invested more than €6 billion in 144 Mittelstand bonds since 2010. Many were private investors, lured by well-known names, who believed that the German Mittelstand is synonymous with reliability and quality.

It turns out that was a false conclusion. The segments, specially created by the exchanges, have primarily attracted companies with poor credit ratings that banks stopped lending to long ago.

“As a result, the bond for the Mittelstand turned into a bond for weak credit,” wrote Capmarcon study author Johannes Fink.

Many bankruptcies and restructurings were the result. In addition to the insolvency of KTG Agrar, the failures of fuel producer German Pellets and fashion company Steilmann have also made headlines in Germany this year. Other bankruptcies are not as recent but no less spectacular, including those of soup maker Zamek, MS Deutschland and Germany’s top bicycle retailer Mifa.

The record is disastrous. According to the Scope rating agency, 43 bonds have failed, and 23.3 percent of the issuers are now insolvent. And Capmarcon calculates that more than 27 percent of the bond volume placed with investors is “performance-impaired,” which means that some of the money is lost, while the remainder offers little hope of capital repayment.

The record is disastrous. According to the Scope rating agency, 43 bonds have failed, and 23.3 percent of the issuers are now insolvent.

In many cases, the ultimate outcome for creditors is still unclear. Personal service provider HKW is an example of how long investors have had to wait for their money. Insolvency proceedings were initiated in February 2014. Since then, the Munich public prosecutor’s office has been trying to determine what happened to the money the company collected for its €10-million bond. Insolvency administrator Alex Bierbach expects that the case “is likely to take as least another two to three years.”

According to Capmarcon, so far only seven issuers have successfully restructured their bonds by exchanging them for stocks or extending their maturities. In another seven cases, however, the borrowers had to fully or partially suspend their business activities. The bondholders were serviced in accordance with a quota, according to the insolvency plan – with extremely low quotas of 0.5 to 16 percent.

The creditors of Windreich, a wind farm project planning company, made out somewhat better. Insolvency administrator Holger Blümle currently predicts a quota of about 31 percent, as consulting firm One Square Advisory Services announced after the creditors’ meeting in late July. But this too is not good news for investors who had once hoped for generous revenues from green energy.

Those that have profited from the Mittelstand bond segment are primarily the many service providers: Exchanges, listing partners, lawyers and communications advisors. The Capmarcon study estimates that about €400 million in fees and commissions have been paid to date.

The bad news? Experts believe the situation in the market for Mittelstand bonds could get even worse.

According to calculations by the Scope rating agency, 86 bonds with a total volume of more than €4 billion are scheduled for repayment or refinancing in the next three years, with the biggest chunk maturing in 2018. The volume of insolvent issuers has already been deducted from this total.

Problems are already looming for some of these companies. More than one in eight of the currently outstanding bonds is being quoted at less than 50 percent, according to Capmarcon, and half of the securities are quoted at between 50 and 100 percent.

One of the most prominent examples is Travel 24, a subsidiary of the now insolvent internet holding company Unister. Even though the insolvency does not directly affect the travel website, the price of the bond tumbled to as low as 3 percent after the parent company’s bankruptcy was made public. Since the company has announced that it intends to use the sharp decline for a share repurchase, however, the price climbed back up to about 30 percent of its original value.

Investors are not required to give back their bonds. Nevertheless, the repurchase leaves a bad aftertaste.

“In my view, the critical aspect of an unlimited repurchase right in the bond conditions is that the company has an incentive to depress the price, so that it can buy back the bonds at a favorable rate,” said Sebastian Zank of Scope.

Another troubled company is sanitary specialist Sanha, whose €37.5-million bond matures in the summer of 2018. In early July, the price plummeted to less than 40 percent at times, but has recovered somewhat since then. The management is trying to convince investors that there were no operational reasons for the price collapse. Two bonds of insurance boutique Enterprise Holdings, with a total volume of about €20 million, are currently struggling with price losses due to acute problems with its key operating subsidiaries.

Capmarcon also describes as disastrous the situation for the 2017 repayment year. Of the €1.124 billion originally due, €681 million are already performance-impaired. This generally means that the issuers are already unable to afford interest payments any longer.

Because of the poor image of Mittelstand bonds, there are very few new issues today. Most issues that do take place consist of follow-up financing.

“When a typical Mittelstand bond is placed on the over-the-counter market today, investors should examine a possible investment very thoroughly. After all, transparency requirements and possibly liquidity are even lower than in the old exchange segments,” said Mr. Zank.

All of this means Mittelstand bonds will probably be relegated to niche status. While they could remain attractive to those prepared to take on major risks, there are more advantageous options in the low interest-rate environment for companies with good credit ratings.

“On the one hand, banks are generous at the moment. On the other hand, private placements through bonded loans are available to sound Mittelstand companies,” Mr. Zank added.

Anyone who still wants to place new Mittelstand bonds should do so primarily with institutional investors, he advises. This is what German soccer club Schalke 04 did, when it recently replaced a bond issued in 2012 and maturing in 2019 with two new bonds.

There are also bright spots in the redemption of bonds. Real estate project developer Eyemaxx redeemed a bond maturing in July on schedule. And solid house provider Helma Eigenheimbau plans to redeem its bond, which normally matures in 2018, this September.

Find the right companies, and you might still be in luck.


Susanne Schier heads the private investment team at Handelsblatt’s Frankfurt finance desk. To contact her: schier@handelsblatt.com

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