Builder Debt Tripling as Western Europe Shuns New Borrowing: Poland Credit

Poland’s construction industry increased debt almost three-fold in the past year to finance the nation’s biggest highway-building boom, boosting the risks of higher borrowing costs as loans come due.

While west European companies in the Stoxx 600 Construction & Materials Index reduced net debt 4.4 percent in the 12 months from June 30, 2010, liabilities of 31 publicly-traded Polish builders rose to a record 3.7 billion zloty ($1.2 billion), data compiled by Bloomberg show. Payment delays and foreign competition for contracts before European soccer championships added to the debt, raising the prospect of higher costs, said Przemyslaw Szkudlarczyk, chief financial officer at PBG SA (PBG), Poland’s third-largest builder by sales.

Budostal 5 SA (BL5), the last construction company to issue zloty bonds, paid 720 basis points, or 7.2 percentage points, above the benchmark three-month Warsaw interbank offered rate on unrated two-year notes sold Aug. 5, data compiled by Bloomberg show. Investors demand 347 basis points in extra yield to own seven-year bonds of Vienna-based Strabag SE (STR), which has at least 28 road projects in Poland, rather than similar maturity German debt, up from 200 basis points when they were issued in May.

“Market sentiment toward construction companies in Poland is very negative because debt is high and there’s uncertainty about future contracts,” Michal Oleszkiewicz, a fixed-income portfolio manager at Warsaw-based pension fund Nordea PTE SA with the equivalent of $3.1 billion of assets, said by phone yesterday. “If a building company were to sell bonds now it would have to pay far more than a year ago, with a spread widening by more than 100 basis points.”

‘Reduced Exposure’

Aviva Investors Poland SA, which runs Poland’s second- largest mutual fund, with the equivalent of $3.1 billion of assets, “reduced exposure to the construction and property development sectors in the past year as risks are growing,” said Dariusz Kedziora, a fund manager at Aviva in Warsaw.

Poland, the largest post-communist country to join the EU, with 38 million people, was the bloc’s biggest recipient of funds in the 2007 to 2013 budget, taking 67 billion euros ($92 billion) in aid to reduce differences between richer and poorer regions. More than 10 billion euros is being used to help Poland’s plans to nearly double the length of its highways before hosting the European soccer championships in 2012, according to Poland’s road-building agency.

Best to Worst

The funds turned builders into Poland’s best performing stocks between May 2004, when the country joined the EU, and December last year, with the index gaining 173 percent. That compares with the 56 percent increase in the benchmark WIG20 Index. Construction stocks dropped 50 percent this year, three times more than the decline in the WIG20, as foreign companies, including Strabag, Dublin-based SIAC Construction Ltd, and China Overseas Engineering Group Co. Ltd., competed for business.

“Contracts are less profitable than investors had earlier thought, and builders have to put up their own money to complete the work because payment periods for state contracts are very long,” said Ewa Radkowska-Swieton, the head of investment at ING PTE SA, Poland’s biggest pension fund, with the equivalent of $17 billion of assets. “The next problem is what happens when all these EU-financed investments end. We have money until 2013 and we don’t know what will happen afterward.”

‘Temporary Phenomenon’

PBG has plunged 62 percent this year, the most among companies in the WIG20 Index. The shares were unchanged at 82 zloty at 10:43 a.m. in Warsaw, valuing the company at 1.2 billion zloty.

Rising debt is a “temporary phenomenon” and should start falling once the government settles bills for road projects, Szkudlarczyk said by phone from Wysogotowo, in western Poland.

PBG sold floating-rate notes due in 2013 last year at 280 basis points above the Warsaw interbank rate, or Wibor. Erbud SA (ERB) paid 340 basis points over six-month Wibor in July, while property developer Ghelamco Invest Sp. z o.o. paid 500 basis points over the rate on three-year bonds sold in August.

Most corporate bonds in Poland are held to maturity by their initial buyers, curbing secondary trade and limiting information on pricing, according to Kamil Stolarski, a Warsaw- based analyst at Espirito Santo Investment Bank.

Price Competition

Profit margins on road contracts halved to about 1 percent to 2 percent of sales as “the whole world came to Poland to build and we had to compete on price,” Polimex-Mostostal SA (PXM) Chief Executive Officer Konrad Jaskola said in an interview on Oct. 11. Companies wait more than 100 days to get payments from the government’s road-building agency, which increases financial costs, he said.

The cost to insure Polish debt against non-payment for five years through credit-default swaps has dropped 61 basis points, or 0.61 percentage point, this month to 235 today, a one-month low, according to data provider CMA, which is owned by CME Group Inc. and compiles prices quoted by dealers in the privately negotiated market.

Polish default swaps cost 66 basis points less than the average for countries in eastern Europe, the Middle East and Africa included in Markit iTraxx SovX CEEMEA Index today, compared with an 85 basis-point discount a year ago.

The contracts pay the buyer face value in exchange for the underlying securities or the cash equivalent should a government or company fail to adhere to its debt agreements.

Spreads Narrow

The extra yield investors demand to hold Poland’s dollar- denominated bonds rather than U.S. Treasuries fell 11 basis points to 247 today, indexes compiled by JPMorgan Chase & Co. showed. The spread over German euro-denominated bonds declined 10 basis points to 367. The difference is down from 443 basis points on Sept. 22, according to data compiled by Bloomberg.

The zloty strengthened 0.4 percent to 4.3329 per euro today. The currency has climbed 2 percent against the euro this month after losing 10 percent in the third quarter, the most among the 177 currencies tracked by Bloomberg. The zloty also lost 17 percent against the dollar last quarter.

“I’m moderately optimistic about the building industry,” Przemyslaw Gdanski, board member at BRE Bank SA (BRE), the country’s third-largest bank said in an interview on Oct. 4. “Companies have won huge orders and still there will be a lot to build in this country. The amount of debt is a measure of companies’ involvement in the big contracts they are carrying out now.”

Investment Spree

Including road-building, investments in power generation, mining and infrastructure are set to total 500 billion zloty in Poland over the next 10 years, according to estimates by consulting company McKinsey & Co. in September.

Poland’s largest utilities -- PGE SA, Tauron Polska Energia SA and Enea SA -- will need to raise funds as early as next year. The domestic corporate bond and commercial paper market, with a total outstanding value of 43 billion zloty at the end of September may not be able to absorb the utilities’ investment spree, forcing them to issue bonds on international markets, according to Fitch Ratings.

“We’ve steered clear of Polish construction companies for a while now as prospects for the industry aren’t encouraging,” Jakub Taborowicz, a fixed-income portfolio manager at the asset management unit of PZU SA in Warsaw, Poland’s largest insurer, said by phone.

To contact the reporter on this story: Pawel Kozlowski in Warsaw pkozlowski@bloomberg.net; Maciej Martewicz at mmartewicz@bloomberg.net

To contact the editor responsible for this story: Gavin Serkin at gserkin@bloomberg.net

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