With the financial health of the corporate sector showing no signs of improvement and rising leverage at stressed corporates, Credit Suisse said it expects corporate asset quality to weaken further

In the recently reported September quarter, bank’s problem asset additions remained elevated at about 4% (annualised) and total problem asset levels are now around 10%. However, recognised problem loans in the large corporate segments are still relatively lower at 5%. “With  the financial health of corporates  showing no signs of improvement and rising leverage at stressed corporates, we expect corporate asset quality to weaken further and remain cautious on the corporate lenders like State Bank of India (SBI), Punjab National Bank (PNB), Bank of India (BOI), Union Bank of India and Yes Bank,” says Credit Suisse in a report.

According to the report, the second quarter to end-September, witnessed further deterioration in corporate health, as share of loans with corporates having interest coverage (IC)<1 went up to 34% against 31% in 1Q14. Of these, 80% of loans were with companies which had IC<1 for at least four quarters in the past two years and for 26% of them in the last eight consecutive quarters. In second quarter,  the  share of infra and real estate companies among the IC<1 companies rose as Jaiprakash Associates, DLF and Hindustan Construction Company (HCC) were added, while Adani Ports and Reliance Communication (RCom) went off the list, it said.

Credit Suisse said, of the total debt with companies having interest cover less than 1 (i.e. 34% of total sample debt), about 80%  was with companies not covering interest in four  or more quarters in the  past two years, i.e., companies facing chronic stress (around 27% of total sample debt). This share of companies facing chronic stress within IC<1 companies has gone up from about 50% as of FY12 to around 80% currently. Also about 26% of debt is in companies not covering interest for eight consecutive quarters. 

According to the report, infra and metals continue to dominate the share of companies with IC<1, with the share of infra and construction increasing further to about 39%.  This was also reflected in an increase in restructuring referrals from the infra and construction sector. During the quarter, Jaiprakash Associates, HCC, DLF, Unitech and Gitanjali Gems & Jewelleries were among the large additions to the IC<1 list. Utilities, energy and telecom saw their share decline as RCom, MRPL and Torrent power exited from the list.
 

Credit Suisse said, many of the under-stress companies have reported significant increases in erosion of net worth in the past few quarters. It said, "26% of sample debt was with loss making companies. Moreover, with consistent losses, several companies have now witnessed 22%–80% net worth erosion in last two years even as their debt levels continue to rise."

"Given continuing cash flow strain and currency depreciation, debt levels for most of the stressed corporates have increased further. Debt levels for many of the larger stressed corporates (eight out of nine largest companies with IC<1 being the “house of debt” companies) increased 5–12% in 1HFY14. Bank loan growth to stressed sectors like power (26% YoY), metals (21% YoY) remained high, the report said.

Credit Suisse said, given the continuing cash flow strain and currency depreciation, debt levels for most of the stressed corporates have increased further.  Even as some of the large corporates have been increasing focus on de-leveraging and asset sales, this is not visible as yet.

The report said NPL slippages (gross), despite moderation from 1Q14 levels, remained elevated at 2–5% for most PSU banks. PNB, IDBI, Indian Overseas Bank (IOB) and Union Bank of India witnessed high slippages while BOI, Canara Bank & Bank of Baroda (BOB) witnessed sequential improvement.  Credit cost picked  up to 1.3% (versus 1.1% in 1Q14) even as NPL coverage broadly remained flat on account of higher provisions for restructured loans with the  provisioning requirement @5% on incremental restructuring and increases in standard asset provisions for existing stock. With a high degree of under-provisioning, increased provisioning requirements for restructured loans and ageing of NPAs, we believe that an improvement in credit cost is unlikely in the coming quarters, Credit Suisse concluded.