Column: Between a rock and a hard place

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SummaryCaught between slowing demand & rising interest rates, corporate credit quality continues to remain under pressure

The bright lights and festive cheer of Diwali had people hoping that some of the positivity would spill over into the economy and revive demand. But perhaps they were being a tad too optimistic. Slowing domestic demand is the biggest challenge faced by corporate India, and it seems it is here to stay. This problem is being compounded by stubborn inflation. Despite slowing demand, the CPI index breached 10% in October, diminishing hopes of a rate cut in the near future. Naturally, this isn’t good for the industry, which was hoping for rates to soften at some point. Operating margins of rated firms are coming under pressure on account of their inability to pass on rising input costs to consumers. In addition, with the prospect of interest costs rising, India Inc’s credit quality looks set to remain under pressure. This is borne out by our study of 5,394 CRISIL-rated firms.

The study was based on data obtained from a sample of 5,394 CRISIL-rated firms, which is representative of CRISIL’s rating portfolio. The sample is well-diversified, as it has firms of varying sizes, from across rating categories and from 115 different industries. The operating income of the smallest firm in the sample is around R3 lakh, whereas that of the biggest one is around R1,36,557 crore.

In order to gauge the precise impact of the demand and interest rate scenario on different segments of India Inc, CRISIL segregated the firms by revenue into three buckets—up to R50 crore, between R50 and R250 crore, and R250-crore-plus. We then assessed the vulnerability of their interest coverage ratio (which indicates the sufficiency of operating profits to service interest costs) and profits after tax (PAT) in this fiscal by putting them through the twin sensitivities of an interest rate hike of 50 bps and a decline in operating profitability (OPBDIT) of 1%.

The 50 bps increase in interest cost is based on the increase in base rates by banks till date, as well as the CRISIL Centre of Economic Research’s rate expectations till the end of March 2014. Meanwhile, the slowdown in demand—which remains a source of stress for a fourth of the firms assessed by CRISIL in its recently-launched ‘State of the Nation’ report—will result in pressure on the operating profitability of quite a large number of firms. While profitability pressures are likely to vary across different sectors, we have tried to gauge the impact of a

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