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EBITDA growth for India Inc. came down to 6% this quarter: Ashish Gupta, Credit Suisse

After several quarters of stable level of stress, we saw an increase in overall stress indicator.

ET Now|
Dec 05, 2019, 03.18 PM IST
Ashish Gupta-Credit Suisse-1200
Power, telecom and financial cos have been under maximum stress, says Ashish Gupta, Head of Equity Research, India, Financials, Asia Pacific, Credit Suisse. Excerpts from an interview with ETNOW.

How much threat is there from the combination of high leverage and low interest coverage? At a time, when we are seeing an all-around slowdown, does the effect of this get compounded?
Yes. This health tracker is something that we have been running for the last six-seven years and to be frank, the readings on this health tracker have been pointing to elevated stress now for multiple years. But what we have recently seen is that overall the corporate profitability growth has taken a dip. This quarter, aggregate EBITDA growth for corporate India came down to 6% and aggregate interest cover dipped further.

What was disappointing was that after several quarters of stable level of stress, we saw an increase in overall stress indicator and the primary indicator we used is the number of corporates that are running with interest cover of less than one. The big delta this quarter came from sectors like power. You may have seen news reports of power demand being weak and PLFs for many of the power producers have come down. Therefore, interest cover for power companies stopped.

The other much talked about sector of course is telecom, where most of the companies in our sample had interest cover less than one. And stress level there had continued to build up.

The other big challenge that we are seeing today is that the finance markets are very tight. Particularly from a bank credit quality point of view, this has two implications; one is that some of the non-bank exposures that they have they are likely to turn non-performing assets because of credit availability being limited to the NBFCs. Second, the corporates are finding it difficult to get incremental credit and refinance and therefore you are seeing increasing incidence of default there. Both these challenges put together are leading to increased corporate stress.

Banks with excessive capital are aggressively slashing deposit rates. What will be the impact of low LDRs? How is it going to impact NIMs and profitability thereof?
Over the past six months, we have seen a big turnaround in total liquidity availability in the banking system. Private banks was one pocket of banking system that was rapidly growing over the last three years, taking market share from state-owned banks and the big constraint for them was only the amount of deposits that they could garner.

These banks were paying a large premium on term deposits to state-owned banks to get more deposits but lately, both on account of the slowdown in loan demand in certain consumer segments as well as risk averseness, we have seen that even for private banks, the loan growth rate has come down. They are now carrying excess deposits.

Some of the largest private banks are carrying $7-$8 billion of excess deposits which in the near term are going to weigh on NIMs. While there is a good amount of pricing power on loans, you are unfortunately seeing that the loan deposit ratio will be coming down. The surplus funds are deployed in negative carry instruments. So, they are either deployed in G-Secs or parked with RBI which leads to pressure on NIMs.

How are we seeing all of the stake sale in the distribution and non-lending business like SBI Card? How is that going to help the capital position and valuation for HDFC and SBI?
Unfortunately, I would not be able to talk on specific companies and stocks but in a broad way, most of the large franchise banks in India have very meaningful subsidiary businesses. They range from life insurance, general insurance, asset management and, of course, one of them also has a credit card subsidiary.

The deleveraging cycle will continue for the foreseeable future and this will also weigh on the investment demand.

-Ashish Gupta

Over the last 24 months, we have seen many of these businesses already being listed and because these are less capital-intensive businesses, they continue to gain market share. The market is giving them very healthy multiples and most of these companies today trade at multiples higher than the parent company.

We have highlighted in the report that while some of the stocks have been strong performers over the past 12 months, a lot of the stock price movement can actually be explained by the value accretion in the subsidiaries and therefore if we look at the core banking franchise, that is still very attractively valued.

What is the overall systemic risk according to you as companies like Tata Steel, JSPL, Adani struggle with deleveraging and lack of growth in EBITDA? How long did the deleveraging cycle get delayed?
The macro outlook does get muted. The deleveraging cycle will continue for the foreseeable future and this will also weigh on the investment demand. In fact, the financing market tightness that I mentioned earlier is leading to a further pullback in some of the investment plans of the mid-sized companies. Frankly, I do not have a timeline on when we see a turnaround, but this is a cyclical process and all business cycles run similarly. At this point of the cycle, the only thing that will happen is that you will see liquidity being built up and bringing down lending rate.

As more and more surplus liquidity is available at some point of time, you will see banks starting to lend a bit more aggressively and being willing to go to a bit more lower-tiered borrower as well as easy availability of funding, driving some of the investment capex. But a cycle does take time to play out.

On the subject of telecom which also has plagued by the AGR due and the Jio effect, 100% of the telecom has interest coverage less than one time. Private debt in telecom is about 1.8 trillion and the government debt is also pretty high. Deleveraging also seems to be a challenge unless a fair bit of capital can be raised. What are your thoughts on the same?
This is one space that has seen a lot of positive news and really the fundamentals have dramatically improved over the last couple of weeks, when aggressive price increases have been undertaken and that will lead to a substantial step up in the profitability and EBITDA of these companies.

The challenge in the near term remains that there are immediate cash flow needs. Hopefully, there will be some affirmative government action on that front as well. You might have some push back in the terms of payment for these AGR dues. If that happens, then at least the top two, three players who are still standing, will be in a much better position. Hopefully, that will not be a part of the portfolio that banks will need to worry about.

The power sector of course, seems to be a sore point. Overall, PLFs have seen declines even at the private level and merchant tariffs are also falling while demand has softened considerably. What lies ahead for the power sector?
The only light is that finally after two years of trying, we are coming to the end of a few resolutions. A couple of power projects are getting resolved, they are finding new buyers. Two or three more should be completed by the end of this quarter and that will bring down the NPA level for the few banks that have exposure to these names. Of course, these are coming with stiff haircuts in the rage of 40-60% but over the past three years, banks have built adequate provisions on these already.

So while there will be large haircuts we do not expect this to lead to incremental provisioning needs. But for the broader power sector, the challenges remain and you may have seen the reports from some rating agencies. The concern has moved on from thermal power projects to some of the renewable projects as well. This will continue to be a sore point for the banking system.

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