Ind-Ra: Absence of Economic Triggers to Weigh Down Corporate Credit Recovery

India Ratings & Research (Ind-Ra) expects corporate earnings to continue their muted growth trend in FY16; however, the downward trajectory may get checked, to an extent, thanks to the proposed government spending.

Ind-Ra's study of the key drivers of aggregate corporate profitability using Kalecki's profit equation tentatively suggests that a larger fiscal deficit is accompanied by greater profits, and vice versa. Capital spending, according to FY16 budget estimates, is likely to boost aggregate corporate earnings with a lag of three-to-six months post the actual spending of the amount. However, other key drivers of corporate profitability namely investment, household consumption and corporate dividend/spending are unlikely to boost corporate earnings.

Other factors having a moderating influence on aggregate corporate revenue and earnings growth are the dis-inflationary trend of moderating nominal GDP, reduction, and in some cases, reversal of accurals by corporates and a marginal uptick in taxes in FY16. As such, in line with Ind-Ra's expectation (refer: Downside to Corporates Capped, published 10 July 2014), corporate earnings have not improved in FY15. Till date in FY15, Sensex earnings have fallen 8% yoy and broad market earnings by 1% yoy.

While corporate credit metrics have tentatively bottomed out since 2HFY14, their recovery is likely to remain protracted. As such, there is no immediate economic trigger or Union Budget 2015-16's proposal which will cause a turnaround of stressed or vulnerable corporates. One-in-three of the 500 largest corporate borrower companies do not have enough margins to support even its interest payment.

The calibrated withdrawal of regulatory forbearance for banks will pick up pace from 1 April 2015. The situation could persuade banks to take a decisive call on the weak corporates that need to be restructured, considering the timeline of 31 March 2014. The agency, in a report published on 4 November 2014 (Restructured Assets May Surge on Revised RBI Guidelines), expected incremental non-performing asset (NPA) and stressed asset to the tune of INR600bn-INR1,000bn in 2HFY15. Thus far in 3QFY15, incremental NPAs have been to the tune of INR250bn. Therefore, we expect a significant spike in the number of NPAs and restructured assets of banks in 4QFY15.

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