Of late, news reports appear to focus more on adverse corporate credit quality (‘Credit quality poorer, default ratings up 40%’, The Financial Express, January 11, 2016, bit.ly/1l2ggih). Downgrades are giving a bad name to the credit quality of Indian corporates. True, it may be present in certain pockets, but the silver lining of upgrades and the q-o-q corporate results also need to be taken into reckoning. Bottom-lines of listed corporates, as published in quarterly results, do exhibit significant improvement. The pace of topline growth in q-o-q results, though, may not have kept pace with the bottom-line; but the overall impression has been quite good, if not great. There are some unlisted corporates that are yet to unlock value. The total number of upgrades and downgrades, as per CRISIL, stood at 1,281 in H2FY15, increasing to 1,441 in H1FY16—i.e., recorded about a 12% increase. The number of upgrades moved from 815 in H2FY15 to 981 in H1FY16, an increase of 20%. The number of downgrades fell from 466 in H2FY15 to 460 in H1FY16. All these appear to augur well considering the seven consecutive half-year long-term trends (as shown in the accompanying chart).
Comparing upgrade/default (U/D) ratios across H1FY16 and FY15, a jump was observed in small- and large-sized firms with low leverage. The jump is decent and quite notice-worthy. On the flipside, and as anticipated, medium- and large-sized firms (with medium & high leverage) witnessed some downgrades in H1FY16 compared to H2FY15.One key observation is that small-sized firms with high leverage witnessed upgrades. Serious small-sized firms appear to be investing time and resources and preparing themselves for the next round of growth. An analysis of the performance of the corporate sector (non-government, non-financial listed companies) for the period FY11 to H1FY16 indicates that after deterioration in the Q1FY16, except sales, critical performance parameters such as operating profit, ebitda, net profit and interest coverage ratio showed improvement in the Q2FY16.
However, if one considers the seven consecutive half-year trends in U/D ratios as shown in the accompanying graph, the scenario may not be that bad. Over a long-term horizon, after a lull in H1FY13, as the accompanying chart illustrates, a positive trend in U/D ratio can be expected. From a low of 0.62 in H2FY13 the U/D ratio has increased by two times in H1FY16. As is generally expected, firms with low leverage have traditionally enjoyed a better U/D ratio. Sectors that feature in the bottom-list of the default order (low default on long-term instruments) include oil, gas and consumable fuels, media, healthcare providers & services, transportation infrastructure and building products. Commercial services also features in the said default list. Textiles (apparel & luxury goods), metals, food products, construction & engineering and real estate feature in the top list of the default order.
Highly leveraged firms had difficult time with rating agencies with U/D ratio standing at 0.1x for large-sized firms. Based on a recent study (in H1FY16), around 80% of the upgrade was of the firms with debt-to-ebitda below 2.5x or from sectors such as packaged foods (shrimps, beef, etc), pharmaceuticals, agriculture products and readymade garments (non-luxury). Firms with debt-to-ebitda of more than 2.5x operated especially in capital-intensive commodity sectors such as metals and the real estate and infrastructure space. Credit quality improved for firms that are largely dependent on consumption and exports. Over time, some corporates are aiming for better disclosure and reporting, besides better financial results. A host of IPOs are also in the pipeline.
The potential of Indian corporates is yet untold and ratings agencies may not reflect India’s true story. India’s story is yet to unravel, and will do so at its own time and pace; suddenly, all ratings agencies will start going ga ga, just as they fail to notice crises!
Ghosh is chief economic advisor, and Majumdar is head (business research), State Bank of India. Views are personal