The rate hike is likely to have an impact on companies across the world.
The world has historically enjoyed nearly a decade of low interest rates and loose monetary policy. More after the pandemic, as the Federal Reserve lowered interest rates and bought financial assets to stimulate growth and tighten markets.
But now, as federal Reserve And with the European Central Bank planning to raise interest rates, it could signal the end of the accommodative policies that markets have enjoyed so far.
This action is likely to have an impact on companies around the world as well. Especially those who are very indebted.
So, how do we define a highly indebted company?
highly indebted companies It’s not just companies with high debt levels. A high level of debt alone cannot define the company’s ability to service, which is an indelible characteristic of a debtor company.
There is a good chance that companies with high debt can generate strong cash flow to meet their interest costs and comfortably repay the loan. So even if a company has a lot of debt, it does not mean that it is in trouble.
Therefore, a better way to identify risk is to analyze their interest coverage ratio.
The interest coverage ratio measures the ease with which a company can pay interest on its total debt. Considering a company’s profitability and annual interest payments, this is an important ratio.
Now that we know the right way to filter out indebted companies that may be at risk, let’s look at the five most indebted companies in India and see if higher interest rates can bring them down.
#1 Macrotech Developers
Established in 1980 by Mangal Prabhat Lodha, Macrotech Developers is one of the leading real estate firms in the country.
The company markets its properties under the famous ‘Lodha’ brand. It enjoys a leadership position in its existing micro markets with 15-30% market share and aims to replicate the same in new markets.
Macrotech developers not only sport a large pile of debt, but also lack the ability to repay it through internal cash flows, as reflected in its low-interest coverage ratio.
As the pandemic ravaged the economy, the company’s sales were cut in half. With large interest payments, it wreaked havoc on profitability.
But after this, the real estate sector in India boomed, due to which the company recovered rapidly. The company reported record sales, which helped it generate strong cash flow.
As Rosie performed, she could only pay off a small portion of her debt. And so, with large debt on its books and poor coverage ratio, the Macrotech developer decided to focus on debt reduction.
The company has recently raised around Rs 2,100 crore through QIP and has repaid a part of its debt.
However, since 35 per cent of its debt is due for repayment next year, the company may not generate enough cash flow to cover those large payments until mid-2023.
Any increase in interest rates will only increase its interest burden, further reducing its profitability.
An increase in the interest rate is usually accompanied by a slowdown in demand. Home buyers, in the near term, are likely to reconsider purchase decisions affecting the company’s sales.
Furthermore, the company’s single market focus and business cyclicality may impact its profitability over the long term, posing serious challenges ahead.
Another major concern is the high cost of borrowing. Since a major part (90%) of its debt is from Indian financial institutions, it has a high interest rate (about 11%). This puts pressure on the company’s ability to generate strong cash flows.
However, they have a trick up their sleeve.
Promoter holding is 82 per cent. This level is well above SEBI’s minimum public shareholding norm of 75%, which gives them ample scope for debt reduction through share sale.
Therefore, there is a good chance that the company will raise more money through stake sale.
#2 Tata Motors
Despite being a leader in the domestic commercial vehicle segment with a well-established presence in the global luxury car market through Jaguar and Land Rover, the Tata group company is on the list of highly indebted Indian companies.
The automobile sector has not been performing well since 2018. Reasons for policy changes and vehicles
Financing issues, most auto companies are underperforming.
When Covid turned into an economic crisis, auto companies suffered the most. The declining demand in an already weak sector has worsened the condition of auto companies. Even now, rising raw material costs and semiconductor shortages have eaten away at their profitability and sales.
JLR is losing its market share in the international market, which makes up a substantial portion of its business (over 75% of total revenue) since 2017.
Despite being the market leader (47%) in the Indian commercial vehicle segment, the company has underperformed its domestic and international counterparts.
It is losing market share in the EV (Electric Vehicle) segment in the international market. As sales of electric vehicles around the world have increased significantly, JLR is lagging behind.
Its share in the EV segment is less than 1% in the US and China and about 2% in Europe. Worse, it has no plans to launch any electric vehicle before 2024.
A worrying factor, this loss in market share can hinder a company’s profitability as well as its ability to successfully repay debt.
However, interest rate hike is not a major concern. Unlike Macrotech, most of the company’s debt is from foreign institutions, which have an interest rate of around 5-7%.
Apart from this, the company has another 3-4 years to repay its debt. Most of this is due for repayment by 2025. This gives ample time to generate strong cash flow.
#3 Bharti Airtel
Headquartered in India, Bharti Airtel is a global telecommunications company operating in 18 countries across South Asia and Africa.
The company ranks among the top three mobile operators globally, with its mobile network having a population of over two billion people.
But investors are increasingly concerned about the astronomical debt sitting on its books.
Even though the 5G roll-out has led to a big boom in the telecom sector, most of the telecom players have a weak balance sheet.
With huge investments in spectrum acquisition and 5G deployment, telcos often raise funds through borrowings or stake sales. And Bharti Airtel is no exception.
The company had raised Rs 2,000 crore through rights issue last year, ahead of the proposed 5G spectrum auction.
It has shifted its focus to decongesting the balance sheet. With the changing competitive landscape and strong growth prospects, the company is confident of its debt servicing ability. There is also a good chance that the company can meet its targets.
Only 20% of the total outstanding in the next 2-3 years. Most of its debt is due from 2026 to 2030. Also, the low interest rate of around 3-8% on 70% loans is a big relief.
Keeping this in mind, international rating agency S&P retained the credit rating of Bharti Airtel at ‘BBB-‘ and stabilized the outlook from negative. It reflects the confidence in the financial position of the company and its ability to repay the debt.
Hence. The much-awaited interest rate hike should not be a major concern for the company.
#4 Adani Green Energy
one of the largest renewable energy companies In India, Adani Green holds the largest solar power generation capacity globally.
Generating electricity through renewable sources such as solar and wind power, the company builds, develops and maintains utility-scale grid-connected solar and wind farm projects.
But the creation of such massive operations not only earned him a big name but also made it to the list of top indebted companies in India.
The company’s growth has come on the back of strong borrowings. It has added a lot of debt to fund its capex.
It has grown 5 times in the last 5 years from Rs 3,600 crore in 2017 to Rs 19,700 crore in 2021, which is a big cause for concern.
To add insult to injury, that’s going to be 30% next year and 30% by 2024.
So, even if the company changes its debt, any increase in interest rates can aggravate the situation. Even now, a large proportion of loans attract relatively high interest rates, with a weighted average of around 9%.
The company has failed to generate any positive cash flow, ie the company’s ability to repay debt from internal accruals. This is reflected in the low interest coverage ratio.
Therefore, if the interest rate rises, it will have to replace the existing higher lending rate with a higher rate of credit, putting a lot of pressure on the business to perform well in the near term.
#5 Tata Power
As India prepares to move forward in the development of clean energy sources, Tata Power is equipping itself every step of the way.
What started as the Tata Hydroelectric Power Supply Company in 1911 is now the largest integrated power company in India. Be it power generation, transmission or distribution, this well-known company is present across the entire energy value chain.
With an aim to be a leader in India’s clean energy revolution, the company is investing heavily in clean energy generation. It is building an elaborate EV infrastructure and setting up EV charging stations across the country.
But all this detail comes at a cost. The company has taken huge debt and is now one of the most indebted companies in the country.
In addition, the ability to repay loans through internal accruals has been compromised, as reflected in the lower interest coverage ratio.
So can a hike in interest rates have a huge impact on business?
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The company has taken effective steps to reduce its balance sheet. In the recent quarter, the company reduced its gross debt by Rs 3,000 crore despite capital expenditure of Rs 1,600 crore.
Also 60% of the company’s total debt is long-term, which is due for repayment only after 2024. This gives their clean energy projects time to come on stream and generate strong cash flow.
Despite borrowing from Indian institutions, the company’s weighted average cost of credit (interest rate) is 7.5%, which is nothing to worry about. Therefore, unless the business suffers dramatically, any increase in interest rates does not pose a serious risk to the company.
In addition to increasing the cost of credit, rising interest rates also pull back demand in most industries, affecting profitability. Therefore it may be difficult for companies to generate more money to repay their loans for a year.
To finish…
As you can see from these examples, high interest rates don’t spell doom for companies. In fact, in the case of some companies such as banks and NBFCs, a higher interest rate environment can drive growth.
In addition, debt can help companies grow and expand. It is only when the loan is unserviceable that the company will find itself in trouble.
So if you are planning to invest in high debt stocks, make sure to do your homework.
Assess the fundamentals and future growth prospects of the company in question. 360-degree overview of the business will help you make an informed decision.
Disclaimer: This article is for informational purposes only. This is not a stock recommendation and should not be treated as such.
(This article is syndicated from) equitymaster.com,
(This story has not been edited by NDTV staff and is auto-generated from a syndicated feed.)