“VIS Rating: New Leverage Ratio Limits Won’t Stifle Private Bond Issuance”

According to VIS Rating, these issuing organizations must maintain a debt-to-equity ratio (including bonds to be issued) of no more than 5 times to be permitted to issue private placement bonds. This regulation aligns the legal framework for non-public companies with that of public companies under the Securities Law 2024.

VIS Rating specialists believe that the new rule will have a negligible impact on private bond issuance activities. Their data on all non-public companies in Vietnam over the last three years reveals that only about 25% of firms had a debt-to-equity ratio exceeding 5 times or negative equity.

While high leverage is a significant credit risk for low-rated issuers, VIS Rating analysts found that out of 182 enterprises that defaulted on their bonds, excessive leverage was not the primary cause. Instead, weak cash flow and poor liquidity management were the main reasons. Less than a quarter of these defaulters had a debt-to-equity ratio above 5 times or negative equity, while the average ratio for the remaining three-quarters was just 2.8 times, roughly equal to the average of non-defaulting issuers.

Despite moderate leverage, 90% of defaulting issuers failed to generate sufficient operating cash flow to service periodic interest payments or lacked liquidity to repay principal amounts upon maturity.

Nearly 40% of defaulted bonds had very short tenors of 1-3 years, often used for long-term projects that do not generate cash flow promptly. Without stable cash inflows, issuers become reliant on refinancing, i.e., using new debt to repay old debt. Consequently, 85% of default cases occurred within the first three years after issuance.

Additionally, around 40% of defaulted bonds had collateral that was difficult to value or liquidate, such as receivables related to real estate projects, business cooperation contracts, and future project income. The lack of an effective debt restructuring mechanism and limitations in legal approaches further contribute to the high default rate. Overall, investors consider more than just financial leverage when purchasing corporate bonds.

A more comprehensive assessment is necessary, including the underlying motives for bond issuance, the issuer’s ability to generate sustainable cash flow, and the mitigation of repayment risks through high-value collateral or payment guarantees from reputable third parties. Equally important is for investors to evaluate not only credit risks at the issuer level but also specific risks within each debt instrument. These factors encompass payment priority, quality of collateral, and legal commitments.