Decreased leverage: Debt/equity for listed SMEs at lowest in years

Part-II of the series examines the improving balance sheets of SME-listed companies and their relatively conservative approach to debt after Covid-19

Companies listed in the small and medium enterprise (SME) segment have significantly decreased leverage amid rising profitability.

 

The debt/equity ratio of 0.5 in FY24 is the lowest since at least FY18, shows a Business Standard analysis of data covering 183 listed SME companies with numbers available for at least seven years. The SME segment only provides financial statements twice a year, compared to four times for listed companies.    

The analysis here is based on the latest available FY24 results. 

ALSO READ Part 1: SMEs' operating cash flow fell 69% in FY24; sales and profits outperformed

The companies in the sample had a debt/equity ratio of 0.9 in FY18. These were compared to a sample of 152 companies from the BSE 200 index comprising some of India’s largest firms. Banks and finance sector companies were excluded from both. The BSE 200 companies saw their debt/equity ratio decline from 0.7 to 0.6 during the same period, suggesting a sharper decline for the SME segment. 

 

Listing can have a positive impact on business prospects for smaller companies, noted Purnima Rao, who has authored a study on the capital structure of SMEs and is an associate professor of finance at the Fortune Institute of International Business.   

“…listing provides more visibility to the firm and thereby can give the necessary impetus required to boost revenues, further as the credibility of the firm (strengthens), trade credit also becomes easy, which further (boosts) business operations,” she said.

 

Listing typically helps small businesses raise more capital than before, agreed Abhijit Chirputkar, director at the Symbiosis Institute of Digital and Telecom Management, who has also done academic work on SME funding.   

“Owing to increase in the equity access through listing, their access to the debt market also improves,” he said, adding that lower debt brings stability though there may be shareholder pressures to improve return ratios.   

Debt/equity ratio is a measure of indebtedness. Large listed companies have been using a surge in profitability to pay off their debts. Companies now have lower borrowings than they did before the pandemic, after adjusting for size. The overall debt levels for both the SME segment as well as for the large companies have moved close together. But it is the SME segment which has added a lower absolute amount of debt.   

This is despite a faster rise in profitability though operating cash flow has taken a hit as seen in the first part of this series. The sample of SME companies in FY24 generated Rs 342 in net profit for every Rs 100 they earned in FY18. The BSE 200 companies in the sample went from their equivalent base of Rs 100 in FY18 to Rs 218 in FY24. The SME segment has been under scrutiny.  The Securities and Exchange Board of India (Sebi) has warned investors to perform adequate due diligence before investing in the segment. Investors have often bid for hundreds of times the available shares on offer in the case of many SME IPOs amid booming markets.   

Other metrics on debt have also shown signs of improvement.   

The current ratio is another liquidity measure, which is the ratio of current assets to current liabilities. This is also at its best in seven years. The current ratio as of FY24 is 3.4 compared to 3 in FY18. It moved from 1.3 to 1.4 for BSE 200 companies.   

The interest coverage ratio measures whether companies generate enough operating profit to meet interest payments. A value above one indicates that operating profits are greater than interest due. This ratio hit 4.75 in FY24, the highest since at least FY18.   

Next: Listed SME capex growing faster than larger peers