One thing is certain, debt will be difficult to raise
Debt and lack of availability of debt is the biggest threat to many Indian companies going forward and investors should avoid companies and sectors where debt levels are high or debt funding is required to grow.
The current focus of the world is on the highly indebted nations of Greece and Italy with the former on the verge of default and the latter paying high cost to raise incremental debt. Greece and Italy run debt to GDP ratios of over 115% of GDP. Greece’s total debt is USD 480 billion while Italy’s debt is USD 2.2 trillion. Greece default is manageable but Italy’s default is not manageable. Italy’s last bond auction saw it borrowing ten year money at 6.06% yield the highest yield seen since Italy entered the Euro. Markets are unwilling to lend to indebted borrowers even if it’s a sovereign and if the markets are lending they are pricing in a high level of credit risk. The difference between Italy and German ten year bond yields is 400bps, showing that markets are pricing in high credit risk for Italy.
The Eurozone debt issue has its spill over effects on India. The dangers of high debt are being highlighted and domestic markets are no longer willing to overlook fiscal slippages by the government. The hike in the budgeted borrowing by the Indian government by Rs 53,000 crores for the second half of fiscal 2011-12 has taken up yields on government bonds by 50bps. The government is now paying 50bps higher to borrow from the market due its fiscal slippage.
Indian lenders are feeling the effects of the high levels of debt run up by a few sectors in the last few years. Real estate sector, power sector, microfinance sector, airline sector and state run companies in the utility and oil sector are all running high levels of debt, which have become default or close to default cases.
The two large real estate company in India by market capitalisation, DLF and Jaiprakash Associates are running debt levels that are twice as much as their sales. The total power sector loans are at Rs 300,000 crores and indications are that around Rs 55,000 crores of these loans will have to be written off or restructured. ICICI bank restructured Rs 743 crores of loans to microfinance companies last quarter and the largest micro finance company SKS Microfinance is having trouble raising equity through a QIP (Qualified Institutional Placement). Airline industry woes are well documented with Air India and Kingfisher Airlines having to have their debt restructured.
The next big worry will be the oil marketing companies, which are running up huge losses due to selling fuel at subsidised costs and the government is unable to compensate them for their losses. The oil company’s total borrowing has gone up to Rs 120,000 cores up over 20% fiscal year to date.
The domestic debt issues will lead to a) debt defaults and b) funding constraints for debt ridden sectors. Lenders are making or have made provisions for defaults but the biggest worry is the close of the funding tap for many sectors. Lack of availability of funding for real estate, power, airline and other sectors will hit these industries hard leading and these industries will prove to be a drag on the economy.