Mumbai: Indian companies’ ability to pay interest on loans worsened despite successive rate cuts by the central bank, a Mint analysis showed, thanks to higher debt levels, changes in accounting methods and sticky bank lending rates.
The interest coverage ratio (ICR), which measures the ability of businesses to pay interest on their loans, fell to a 13-quarter low in the June quarter, against the backdrop of slowing sales and profit growth.
For 335 publicly traded companies on the BSE 500 index excluding banks, financials, and oil and gas companies, ICR worsened to 3.3 times in the June quarter from 3.33 times in the March quarter, and 4.21 times in the June quarter of last fiscal, Capitaline data showed. A low ratio means a firm is less capable of meeting its interest obligations from operating earnings.
The ratio is derived by dividing a company’s Ebitda (earnings before interest, tax, depreciation and amortization) with its interest cost. On an aggregate, the June quarter interest costs of these companies rose 25.6% year-on-year, against 21.3% in the corresponding quarter last fiscal.
A Mint analysis of the same set of companies showed that aggregate profit growth, after adjusting for one-time gains or losses, declined 5.41% in the fiscal first quarter from a growth of 20% in the year earlier. Net sales grew 4.37% in the quarter ended 30 June, slower than 18.2% in the corresponding quarter last fiscal.
A 12 September ICRA Research report attributed the decline in ICR to higher interest costs due to higher debt levels and IndAS 116 adjustments, on account of which lease rentals have been bifurcated into interest and depreciation costs. It said that sectors such as telecom and construction saw a significant rise in interest costs on an annual basis. The other reason could be some loans coming out of an interest rate moratorium.
Interest outgo has risen despite the Reserve Bank of India (RBI) lowering its repo rate by 110 basis points (bps) since the start of this year through four consecutive rate cuts. While it cut the key policy rate by 25bps each in February, April and June, the central bank used an unorthodox 35bps cut in August. From June 2018 to June this year, the repo rate has seen a net reduction of 50bps.
According to RBI data on lending rates of commercial banks, the median one-year marginal cost of funds-based interest rate (MCLR) moved from 8.52% in June 2018 to 8.7% in June 2019. The data also showed that lending rates were on an upward trajectory from June 2018 till February 2019, when it stood at 8.8%.
Kotak Institutional Equities said fresh lending rates remain broadly unchanged at 9.8% despite downward revisions to MCLR based on data released by RBI on system-wide lending and deposit rates. However, it expects lending rates to soften gradually. “With the 35bps decrease in repo rate in August 2019 and drop in MCLR rates, lending rates are likely to soften... Lending rates are likely to see declines going forward with most banks having cut MCLR rates by 10-20bps in the past one month and with the introduction of external benchmark-linked loans," it said in a note on 11 September.
According to former RBI deputy governor R. Gandhi, while simply moving to an external benchmark would not reduce the cost of funds of corporates immediately, it does quicken transmission of a change in rates. “In this falling interest rate scenario, it would therefore mean faster transmission of the rate cuts for these borrowers and others as well. Moreover, an external benchmark brings in more transparency for borrowers."
An executive director at a state-run bank, who declined to be named, said “Instead of repo rate, banks will soon have to move to a market-linked rate, may be the three-month or six-month treasury bill, as allowed by the central bank. “