More borrowings, slow transmission: Despite rate-cuts, large firms’ interest spend surged in Q1

In a bid to help the economy grow by easing the cost of funds for various stakeholders, the RBI had reduced the policy rate by 135 basis points (bps) in 2019 and followed it up with further cuts totalling 115 bps so far in 2020.

Yet, the interest expenses of the large companies that form part of the Nifty 50 index increased 9.8 per cent year-on-year (YoY) in the June quarter. Much of this increase was led by Reliance Industries Ltd (RIL), whose interest cost surged by ₹1,626 crore, or 31.8 per cent YoY, in Q1 FY21. NTPC and L&T’s interest burden surged by ₹608 crore and ₹495 crore, respectively. Excluding RIL, the borrowing costs of the Nifty 50 companies increased 5.3 per cent YoY. (We have excluded banks and finance companies for this analysis.)

Surge in borrowings

The spike in interest expenses can largely be attributed to increased borrowings. For instance, as on March 31, 2020, RIL had a total debt of ₹3.36-lakh crore, up 15 per cent from the year-ago period. The total consolidated debt of NTPC, L&T, Tata Steel and Mahindra & Mahindra also rose 15-17 per cent in FY20.

In the June 2020 quarter, firms are bound to have borrowed further to bridge the liquidity gap created by the dip in revenues due to the Covid lockdown. “During the lockdown, larger companies resorted to lending money to their vendor ecosystems,” says Nilesh Shetty, Associate Fund Manager (Equity), Quantum Mutual Fund. “This, coupled with the prolonged delays in receivables witnessed by companies in the infrastructure and allied sectors, mainly due to delayed payments by the government, could have worsened the liquidity conditions for corporates.”

Forex fluctuations

For companies that rely on foreign borrowings, exchange fluctuations, too, played spoilsport. The rupee was over 9 per cent weaker in Q1 FY21 compared to Q1 FY20. Tata Steel witnessed an 11 per cent spike in its interest expenses in Q1 FY21 — nearly 52 per cent of the company’s debt is in foreign currencies.

For RIL and L&T, the commissioning of certain projects, such as the gasification business (RIL) and Hyderabad Metro (L&T), resulted in lower capitalisation of interest during the quarter, thus moving the interest expense to the profit and loss account in Q1.

Slow transmission

Also, the RBI’s rate cuts have not entirely trickled down to corporates. Experts believe the transmission has slackened due to increasing credit spreads. “The transmission of interest rate cuts was seen only for companies with strong credit profiles,” says Shetty. “As banks continue to remain risk averse, the interest rates for corporates have not materially come down, particularly for those that rely heavily on bank borrowings for their funding.”

Says Nirav Sheth, CEO, Emkay Institutional Equities: “This phenomenon of increasing credit spread substantially began after the IL&FS crisis.”

While Shetty is highly sceptical about credit spreads narrowing any time soon, Sheth expects the impact of the rate cuts to reflect on the interest costs from the second half of FY21. “Many corporates (mostly AAA and AA rated) have been able to borrow (shorter term) funds at rates lower than the current reverse repo rate,” he says.

Other measures adopted by the RBI, such as the moratorium granted on term loans and working capital funding, could not ease the pain either. This is because accounting continues to be on an accrual basis and the moratorium was only a deferment of interest payments until August 31.