Smallcap and midcap companies are finding it tougher to service debt than their larger rivals despite record low interest rates and a modest revival in demand, indicating a lopsided recovery for India Inc.
A Mint analysis of June quarter earnings of medium and smaller companies showed that the interest coverage ratio (ICR), a measure of how easily a company can pay interest on its debt, has declined compared to the preceding March quarter. A lower ratio indicates a higher debt burden.
The debt service ratio of the 68 members of BSE Midcap and 530 members of the BSE Smallcap index deteriorated to 3.78 times and 3.26 times in the June quarter of FY22, respectively, from 4.13 times and 3.69 times, data from Capitaline showed. The analysis excludes banks, financials, and oil and gas companies. In contrast, for 34 members of the NSE Nifty index, the ratio increased to 6.32 times in the June quarter from 6.11 times in the preceding three months.
India’s largest companies have extended their lead over their smaller rivals since the covid outbreak last year by acquiring companies, cutting debt, expanding their market share, and spending heavily on technology to reach out to customers amid disruptions caused by lockdowns.
Experts said lower profitability in the June quarter due to the pandemic’s second wave hurt companies’ ability to service debt, but smaller firms were more affected than their larger peers.
“For small- and medium-sized companies, absolute borrowings went up even though the credit guarantee scheme came at a lower interest rate. Therefore, their interest costs increased due to the higher quantum of borrowing. Further, even when we look at corporate profits, the improvement is for large ones. However, the smaller ones have been affected as their turnover has not increased to 2019 levels," said Madan Sabnavis, chief economist, Care Ratings.
While the aggregate interest cost of BSE smallcap companies in the June quarter declined sequentially, their profits fell to a greater extent as lockdowns, though localized, disrupted supply chains and hit cash flows. Many small businesses took on more debt to ride out the second wave under the government’s sovereign-guaranteed loan programme: Emergency Credit Line Guarantee Scheme.
“With the demand contraction and corresponding weakening of earnings, the credit metrics weakened for most sectors on a sequential basis in the June quarter. However, the impact on earnings was much lower this year, and with the benefits of a lower interest rate regime, the deterioration in credit metrics was relatively curtailed from year-ago levels," said Shamsher Dewan, vice-president and group head, corporate ratings, Icra Ratings.
The interest coverage ratio of Icra’s sample of companies, adjusted for sectors with relatively low debt levels such as IT, fast-moving consumer goods and pharmaceuticals, saw an improvement in the June quarter to 4.3 times from a year earlier, although it moderated sequentially from 4.8 times.
A few large companies in the metals, automobiles and cement sectors have reduced debt to some extent in the past two quarters. However, such deleveraging is hurting banks’ credit growth, experts said.
“The fact that large and mid-corporates are deleveraging is also the reason why credit growth has been languishing. Having seen the earlier rounds of bad loans, bankers are sceptical about lending to low-rated companies, but the fact is that the better-rated ones would rather borrow from the markets at a lower interest rate," a senior banker said on condition of anonymity.
According to Sabnavis, deleveraging is being done mostly by larger companies, which are using their surpluses to repay debt instead of investing. “It is the new loans that we should be looking at and their quality will be guided by economic performance. Presently, with little investment taking place, demand for funds is low," Sabnavis said.
The RBI has lowered its repo rate by 115 basis points since the outbreak of covid-19 in March last year and has maintained an accommodative stance.
