India - The end game ::IIFL

India Inc’s debt has risen a t an unpre cedented pace in the past six
years and debt-servicing ability o f companies has weakened, as
re fle cted in falling interest coverage and dwindling cash flows.
Flagging growth outlook for the Indian e conom y, aggrava ted by
weakening INR and diminishing prospe cts of intere st ra te cuts in the
near term , intensify the pain of high debt. This pain is almost equally
shared be tween the borrowers and lenders. Government banks have
been showing stre ss signs for a while and priva te banks too are
unlikely to remain immune . ICICI, Axis, and Yes Bank are expe cted
to be the worst impacted among priva te banks.
The two extremes — drowning in debt or floating in cash: Ne t
debt for 749 companies in our universe (ex-banks and finance
companies) with combined marke t cap o f US$828bn, has risen 4.9x
over the past six years (FY07-FY13) to Rs14,918bn (US$244bn).
Average ne t debt-to-equity ra tio for the leveraged companies nearly
doubled to 0.98x. Further, interest coverage almost halved to 3.4x in
the past six years. ROE for this group dropped from 18.9% in FY07
to 8.1% in FY13, despite higher leverage.
Highly leveraged companies cast a shadow on banks: The 176
companies with ne t cash have combined marke t cap of US$409bn or
49% o f our universe . On the other hand, the 66 highly leveraged
companies with ne t debt-to-equity>1.5x and net debt of >Rs10bn
have marke t cap of only US$17bn or 2% o f our universe. Although
these companie s are small in terms o f marke t cap, they cast a
shadow on the country’s banking system with their combined ne t
debt of US$81bn.
NPLs and restructured loans to further rise: Buffe ted by sharp
slowdown in existing opera tions, delays in pro je ct exe cution, high
interest rate s, and INR depre cia tion, we expe ct many of the highly
leveraged companies to slip into NPL or restructured ca tegories over
the nex t two years. Asse t quality woes of banks are now assuming
systemic proportions, which will manifest in the form of banks
be coming increasingly risk averse and suffering from capital
shortfall. We downgrade our re commenda tion on the most
vulnerable priva te se ctor banks, ICICI, Axis and Yes, to REDUCE and
on other priva te banks, HDFC Bank , Kotak and IndusInd, to ADD.

��

-->
Key observations for our universe of 749 listed companies
A sample of 749 listed companies, each with marke t capitalisa tion
grea ter than Rs1bn, displays the following trends:
1. Aggrega te ne t debt-to-equity ra tio has nearly doubled over the
past six years from 0.33x as a t end-FY07 to 0.60x as a t endFY13.
2. Aggrega te intere st coverage ra tio (Ebitda-to-interest expense)
has almost halved from 10.5x as o f FY07 to 4.6x as o f FY13.
3. The ra tio of operating cash flow/shareholders’ equity ra tio fell
from 21% as of FY07 to 14% as o f FY12.
4. From FY07 to FY13, Ebitda grew a t 14% Cagr whereas interest
expense grew a t 30% Cagr.
5. During this period, shareholders’ equity grew a t 18% Cagr
whereas ne t debt grew a t 31% Cagr.
6. ROE fell from 21% in FY07 to 12% in FY13, despite the increase
in leverage.

Key observations for 573 Net Debt companies
Looking a t only the 573 companies (77% o f the universe) tha t have
ne t debt, the broad trends are as follows:
1. Aggrega te ne t-debt-to-equity ra tio nearly doubled from 0.54x as
o f end-FY07 to 0.98x as of end-FY13.
2. Aggrega te interest coverage ra tio (Ebitda/interest expense) fell
from 8.1x as of FY07 to 3.4x as of FY13.
3. Opera ting cash flow/shareholders’ equity ra tio fell from 17.9% as
o f FY07 to 10.5% as of FY12.
4. Ebitda grew a t 13% Cagr from FY07 to FY13 whereas intere st
expense grew a t 31% Cagr during this period.
5. Shareholders’ equity grew a t 18% Cagr whereas ne t debt grew a t
30% Cagr during this period.
6. ROE dropped from 18.9% in FY07 to 8.1% in FY13, despite
increase in leverage.

Banks most exposed to highly leveraged companies
We identified 66 highly leveraged listed companies with Ne t
Debt/Equity ra tio >1.5x and Ne t Debt > R s10bn. These companie s
had a combined net debt of R s 4,969bn (US$81bn) or nearly 9% o f
banking system loans and 15% o f banking system loans to Industry
& Services se ctor as on end FY13. Many of these companies may
have problems in servicing their debt and are therefore vulnerable to
being classified as NPL or restructured ca tegory. However, only a few
have so far been classified as NPL or re structured.
In order to estimate bank-wise exposure to these leveraged
companies, we used a simple me thodology. We found the bankers to
each of these companies and apportioned the company’s debt
be tween the se bankers rela tive to the size o f their total asse ts.
For example, if a company has only two bankers, SBI and ICICI, the
exposure would be divided between these two banks in the ra tio o f
3:1, since SBI’s total assets were 3x larger than ICICI as on end
FY13. Taking another example , if a company has four bankers - PNB,
Canara, Axis, and Indian Bank – the exposure would be divided in
the ra tio of 34:30:24:12, in proportion to the relative size of their
asse ts.
The following table shows the 66 highly leveraged listed companies,
their Ne t Debt, Ne t/Debt Equity ra tio , whe ther their loan is classified
as NPL/Restructured/Standard and the number o f bankers.
It is evident tha t government banks, SBI, IDBI, BoB, and PNB have
the maximum exposure to these highly leveraged companies,
amounting to 10%-12% of their loan book. Among priva te banks,
ICICI and Axis Bank have the highest exposure to these companies,
followed by Yes Bank and IndusInd Bank. We estima te tha t a very
small part o f this exposure , be tween 13%-15%, has been classified
as NPL or restructured until da te. Consequently, there are still plenty
o f loans tha t will continue to be come delinquent and bank s are
expe cted to show a rising trend in NPLs and restructured loans.
On the other hand, HDFC Bank and Kotak Mahindra Bank have less
than 2% of their loan book exposed to these highly leveraged
companies and are likely to face asse t quality headwinds o f much
lesser magnitude .