New RBI norms to make FY17 costlier for large firms

With stiffer provisioning likely for bank lending to these, incremental interest cost could rise 100 bps, with listed bonds trading at higher yields

Large borrowers in corporate India should be ready for higher interest rates on their incremental borrowing from April 2017, as the Reserve Bank of India (RBI) plans to raise the provisioning requirement in this regard.

In 2015-16, India’s top non-financial companies paid an average interest of 7.6 per cent on their borrowing. This could potentially rise to 8.7 per cent, based on average current yields on listed rupee-denominated corporate bonds (see table).

RBI has proposed that banks set aside higher provision for new lending to companies defined as ‘large’. Covered are those with fund-based sanctions from the total banking system of Rs 25,000 crore at any time during 2017-18; Rs 15,000 crore at any time during 2018-19 and Rs 10,000 crore at any time from April 1, 2019 on.

At the end of the past financial year, 21 non-financial companies in the BSE 500 had bank borrowing of Rs 10,000 crore or more, of which eight owed more than Rs 25,000 crore to banks. These eight would have to look beyond banks to raise new loans in 2017-18.

The analysis is based on the debt and total interest cost of 377 companies, excluding financial ones, that are part of the BSE 500 index. Debt is the average of year-end figures for FY15 and FY16, while interest is the actual amount for FY16.

As yields on corporate bonds are typically higher than companies’ FY16 interest cost, the proposed RBI norms are likely to push corporate India’s finance cost higher.

“While this is laudable in terms of development of the corporate bond market, we see it creating problems for some corporates in raising funds, especially for infrastructure projects,” wrote Soumya Kanti Ghosh, chief economic advisor, State Bank of India. He expects annual inflow of  Rs 40,300 crore in long-term debt markets and Rs 19,400 crore in commercial paper for FY18.

Some of the large companies likely to be affected by the change in regulations are Jaiprakash Associates, Vedanta, Hindalco, Tata Steel, Videocon Industries, Larsen & Toubro, Vedanta and GMR Infra.

In all, 55 of the BSE 500 companies from the sample had corporate bonds due, with average yield of 8.7 per cent at present. In comparison, the average funding cost works out to 6.6 per cent for these 55, based on their average debt and interest cost during FY16. For example, Tata Steel’s effective interest cost was around five per cent in FY16, significantly lower than the 8.26 per cent yield on its rupee-denominated bond, currently trading on the exchanges. Similarly, Adani Enterprises’ interest cost was 7.3 per cent in FY16 against the 9.6 per cent yield on its listed corporate bond. For Tata Motors, the corresponding numbers are 6.4 per cent and 8.6 per cent, respectively.

In all, 377 non-financial companies from the BSE 500 index had average debt accumulation of a combined Rs 19.6 lakh crore during FY16 and they paid Rs 1.5 lakh crore in interest. Nearly 42 per cent or Rs 8.2 lakh crore of this debt was bank borrowing.

Analysts say the worst hit would be highly indebted companies with poor credit ratings. “Low-rated companies in financially stressed sectors such as metal, power and infrastructure might find it tougher and expensive to raise funds from the bond market, compared to companies from large business groups,” says Dhananjay Sinha, head of institutional equity at Emkay Global Financial Services.

For example, Reliance Communications, with a current long-term debt rating of BBB+, a notch above investment grade, had an effective interest cost of 6.7 per cent in FY16, against the 9.6 per cent yield on its bond. Rating agencies agree. “Over the medium term, these measures will increase the cost of bank loans for large conglomerates beyond a certain level. Besides, the dependence on bank funding could see a gradual decline and their market borrowing would increase,” wrote Madan Sabnavis, chief economist, CARE Ratings.

Others foresee a deterioration in the ratios of financially stretched companies.

“There will be a negative impact on asset quality, as poorly rated large borrowers would find it difficult to tap incremental funds. The operating cost ratio might also deteriorate, as corporate loans (from banks) are cost-efficient as compared to retail loans (through bonds),” said Ritesh Jain, chief investment officer, Tata Asset Management.

This might force many mid-size companies and their promoters to curb their ambitions and stay away from high growth but capital-intensive sectors such as infrastructure, power and metals. The advantage now lies with large family-owned businesses with deep pockets, providing more comfort to bankers and bond investors.