Firms improve credit health, but not fit yet
After paring debt, firms are back to borrowings to fund growing working capital needs
The share of corporates struggling to meet their debt obligations has reduced since the covid peaks but a broad-based recovery is still awaited, shows an analysis by India Ratings and Research.
The spring of 2020 tested businesses across sizes, leaving many in fragile health or broke. But India Inc. is bouncing back. The share of corporates with poor debt-servicing ability is near its lowest in about a decade, found a study of 3,000-odd listed firms by India Ratings and Research, shared exclusively with Mint.
The study analysed the ratio between operating profit and interest outgo, i.e. interest coverage ratio (ICR), to assess the companies’ debt-servicing capability. Firms with ICR below one were classified as “stressed”. (The analysis excluded real estate, where ICR is not relevant due to different accounting methods.)
Around 12% of large businesses (annual revenue over ₹500 crore) were “stressed” in Q3FY24, against a peak of 39% in Q1FY21. Among mid-sized businesses (revenue ₹50-500 crore), the share fell from 47% in Q1FY21 to 20%, while for emerging ones (revenue less than ₹50 crore), it fell from 44% to 28%, the analysis found.
UPWARD TRAJECTORY
These numbers indicated that mid-sized corporates had narrowed the gap with large ones since the start of the pandemic, while smaller and more financially fragile businesses had struggled with a flatter recovery trend due to limited operating leverage and financial flexibility, the study said.
Abhishek Bhattacharya, senior director and head of large corporate ratings at India Ratings and Research, and the author of the study, attributed the recovery of mid-sized companies in sectors such as auto ancillaries, metals, and power to more nimbleness in their respective supply chains. “They are realigning themselves better to the end customer’s product requirement and are becoming more efficient on their own working capital management,” he said.
Another metric that showed recovery was debt of “stressed” companies. They had about 17% share in the total debt of the companies covered in the analysis, down from about 30% in Q1FY21. Some debt-heavy sectors— such as oil and gas, power, metals, and auto—seemed to be back in health, with this figure being less than 5–7% each, the study said. Smaller businesses exposed to lowerincome segments, including bicycle part suppliers, and small-time ornament makers, showed higher stress.
GREEN SHOOTS
Indian corporates were on a deleveraging spree in the low interest rate regime of the pandemic years, with debtheavy sectors such as metals, logistics, power, and oil and gas aggressively switching to the balance sheet repair mode. This has stood them in good stead: for some, the share of stressed companies dropped to 15–20%, and among large businesses in these sectors, it declined to just 4–5% (from about 32% earlier in Q1FY21), the analysis found. These improved balance sheets are most likely to drive capital expenditure in near term and aid in India’s infrastructure push, Bhattacharya said.
Meanwhile, there are notable signs of recovery in sectors that rely on consumption demand. Retailing and hospitality, which bore the brunt of reduced discretionary demand during covid, have recovered sharply, as the share of stressed firms has fallen off their peaks. However, at the bottom of the pyramid, the resilience of demand recovery is still in question, and is awaiting a broad-based recovery to sustain the momentum, Bhattacharya said.
POCKETS OF STRESS
The study observed a build-up of stress in export-centric sectors, with the world going through macroeconomic and geopolitical turmoil. This trend was fairly pronounced for textiles, chemicals and the diamond industries. A recent rise in freight costs due to the Red Sea crisis could pose further risks. “A select few sectors will see stress on account of freight cost build-up,” said Bhattacharya, adding that some export-oriented sectors were already showing signs of increased stress and would be more severely impacted.
Other segments with persistently high stress despite some recent improvement included telecom and engineering, procurement, and construction (EPC), with around 39% and 33% firms, respectively, having an ICR below one.
A TREND REVERSAL?
Besides a cost overhang, a rising debt burden also raises concerns. After paring debt, firms have again resorted to borrowings to fund their growing working capital needs. A Mint analysis of 2,482 companies, excluding banking, financial services and insurance firms, showed a 7% rise in gross debt by end FY23, against a 2.3% rise in FY22.
Moreover, a possible revival in private capex after the upcoming Lok Sabha elections could further boost credit demand. Bhattacharya said deleveraging has given a lot of headroom to many infrastructure-focused sectors such as steel, power, and logistics to invest, and capex will continue there. “Yet, a broad-based capex recovery might still be some time away as corporates will continue to assess the sustainability of demand at the bottom of the pyramid,” he said, warning that fresh capex would again start leading to a build-up in leverage going forward.