Corporate deleveraging has taken place despite a very favorable interest rate regime: BoB Research

The reasons for corporate deleveraging, which began in FY2018, include insolvency resolution, debt repayments being higher than fresh borrowing, and companies selling off assets and using the proceeds to repay debt, according to Bank of Baroda’s (BoB) economic research report.

While prima facie, it may appear that deleveraging would have accelerated during the pandemic, interestingly, the process had started earlier, as per the report put together by BoB’s economic research department (ERD).

The ERD assessed that in FY18 and FY19, there were 1,842 and 1,899 companies, respectively, which had witnessed a drop in their debt levels. Subsequently, the number of companies deleveraging increased to 2,139 in FY20 and 2,144 further in FY21.

“In terms of the number of sectors, 20 witnessed fall in debt in FY21 as against 14 in FY20 and FY19. This also means that deleveraging is something being witnessed for the last few years and is not purely a pandemic-related phenomenon,” the report said.

The industries where the growth in outstanding debt has cumulatively been negative (implying that there has been a reduction in the level of debt) include shipbuilding (-11.1 per cent), alcohol (-10.7 per cent), industrial gases & fuels (-9.9 per cent), ferromanganese (-9.2 per cent), education & training (-5.8 per cent), diamond & jewellery (-5.1 per cent), and hospitality (-4.5 per cent).

Factors contributing to deleveraging

According to the ERD team, deleveraging has taken place even though there has been a very favourable interest rate regime since the lockdown was announced. This should have made borrowing easier. However, there have been other forces at play which has led to a slowdown in the growth of debt of companies.

The ERD team assessed that the insolvency resolution has contributed to an extent for debt levels to come down as assets sold have been used to compensate creditors. Those that are still going through the insolvency process have been borrowing minimum sums from the banking system.

“Companies have not been borrowing afresh due to the state of the industry. With most industries having surplus capacity, the incentive to invest has been limited, which had resulted in debt repayments being higher than fresh borrowing,” the report said.

The ERD observed that some companies have used their cash surpluses for repaying expensive debt or used the same for expanding capacity. In steel, for example, there has been high capacity utilisation and investment is being largely financed from internal resources.

“Companies have also lowered their debt levels to improve their credit profile and used restructuring as a tool to achieve this. The buoyant equity markets has also been an option for companies to raise funds at the margin. Overall investment in the economy had reached the lowest level as denoted by the gross fixed capital formation rate of 26.6 per cent in FY21,” the report said.

Future investment scene: positive

The ERD said it has been seen that companies have been repaying debt or using their own funds for further investment. But the future investment scene is positive and there would be large doses of capital required especially in the area of infrastructure.

“The government too is going in for asset sale which will finally have to be funded by the financial system. Therefore, there will be a large requirement for funds... It may hence be concluded that this trend of deleveraging will have to turn around as the investment cycle picks up and accelerates. This was expected to commence in FY23 but will get delayed due to the (Russia-Ukraine) war,” as per the report.

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