Interest rate hikes could impact India Inc’s FY23 earnings

High commodity prices are already hurting India Inc. To top it off, the Reserve Bank of India has signaled that interest rate hikes are coming.

Economists expect the first hike in June. Unsurprisingly, analysts polled on Bloomberg lowered their June 23 fiscal quarter earnings per share (EPS) estimates for the Nifty 50 companies by 8.9%.

Can India Inc double down on its troubles? Not enough.

An analysis of the Nifty 500 universe indicates that nearly 52% of companies, or 218 out of 415 (excluding banks and financial services), have seen their interest coverage ratio deteriorate over the past four years. i.e. from the highest rates of 2018 to the lowest on record. 4.5% which prevailed in March 2020.

The deterioration in interest coverage was particularly high in sectors such as autos, consumer discretionary, hotels, chemicals and real estate, while it improved in sectors such as cement , steel, tires, energy and fertilizers.

In the case of companies such as Tata Motors, Aditya Birla Fashion and Indian Hotels, for example, the interest coverage ratio fell into the negative zone during the December 2022 quarter (Q3 FY22).

To put this into context, the interest coverage ratio is an indicator of a company’s ability to pay interest on loans. A higher ratio means that the company is in good financial health to service the debt.

If the number is gradually decreasing, it suggests pain in finances. A negative ratio means that a company is not generating enough operating profit to meet its financial obligations.

Risk to FY23 Earnings

The improvement in earnings in FY21 was largely due to cost reduction, particularly low interest rates.

For Nifty 500 stocks, despite revenue declining 7% year-over-year, net income increased 56% year-over-year in FY21, driven by numerous cost reduction measures taken by India Inc and strong support from RBI in the form of a low repo rate.

As banks passed the cost advantage on to borrowers, companies used it to reduce their debt.

In FY22, even as operating expenses rose 40%, lower interest charges and robust revenue growth post-Covid crisis drove net profit growth for Nifty Businesses 500 for the nine months ending December 2021.

In fact, the gearing ratio – which is a measure of leverage – has been reduced to 0.55x for the six months ended September 2021, from around 1x in FY18.

Despite these tailwinds, at least half of Nifty 500 companies have seen their interest coverage ratio decline since fiscal 2018.

Things are changing once again, with input costs rising faster than expected due to the conflict in Ukraine.

Despite the 8.9% decline in EPS in the June quarter of FY23, Nifty 50’s full-year earnings estimates – at around ₹823 per share – remain almost intact, and that could be in the hope of a faster recovery than expected. -up in revenue growth.

However, if interest costs play the role of the mess, a hit to earnings across the board could be inevitable.

Published on

April 16, 2022

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