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Interest rates: Advantage India Inc. - Views on News from Equitymaster
 
 
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  • Jun 11, 2003

    Interest rates: Advantage India Inc.

    India Inc. seems to be realizing the importance of improving efficiencies. Hence, every now and then one can find companies announcing various measures to improve their performance. Employee rationalisation, debt retirement/restructuring and other productivity enhancing measures have paid off well for Indian companies in the last couple of years. Sometimes, external factors also aid the internal restructuring of companies. The case in point here is global interest rates.

      Bank Rate (%) PLR (%)
    1995-96 12.00 16.5
    1996-97 12.00 15.0
    1997-98 10.50 14.0
    1998-99 8.00 13.0
    1999-00 8.00 12.5
    2000-01 7.00 12.0
    2001-02 6.50 12.0
    2002-03 6.25 11.0
    2003-04 6.00 11.0*

    *Discretionary

    In the backdrop of ever-falling interest rates, Indian companies effectively managed to reduce their interest outgo in the last few years. Just to put things in perspective, interest rates fell from a high of 12% in FY96 to the current 6% in FY04. Due to falling interest rates, the prime lending rates (PLR) were also reduced by banks, which came down from a high of 16.5% in FY96 to around 11% in FY04. PLR is basically the interest rate at which corporates are able to raise loans from banks. Of course, it must be noted that many companies, especially blue chips of India Inc., are in a position to borrow at rates much below the prescribed PLRs. This is primarily due to the fact that these so called higher rated companies have a much lower possibility of loan defaults.

    Source: CMIE

    India Inc. not only benefited from domestic, but also international fall in interest rates. Interest rates in the US fell from a high of 5% in March 2001 to the current 1.25%. And if the markets are to be believed, then the Fed is likely to bring down the rates by further 25 basis points when it meets next. This time around, the interest rates are likely to be reduced as a precautionary measure against a possible deflationary pressure in the US rather than to perk up investor sentiments and persuade corporates to borrow and spend more.

    This movement in international interest rates is of particular advantage to the leaders of India Inc. as they are in a position to reap the benefits of external commercial borrowings (ECB's). Companies can borrow loans in the international markets at rates lower than the prevailing domestic interest rates. Just to put things in perspective, a company can borrow loans at LIBOR (currently around 1.2%) plus 2% or thereabouts, which works out to in the range of 3.5%-4%. This is still lower than what a corporate can borrow domestically. However, it must be noted here that, firstly, not many corporates have access to ECB's. Secondly, this advantage is capped to a certain limit due to various regulatory issues and policies.

    However, all in all, if one sees the broader picture of the whole interest rate scenario, it is advantage corporate India. And coupled with management initiatives at taking full advantage of the situation, India Inc. is likely to benefit from their current debt retiring/restructuring programs. Thus, the effect of lower interest outgo is likely to reflect on the bottomline of the companies for some time to come.

     

     

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