A slowing economy and a halt in the declining interest rate cycle are key concerns for corporate India. To add to that, liquidity is bound to be an issue for corporates given the recent measures to tighten liquidity by the Reserve Bank of India.
What impact could all of these have?
Well, the overall slowdown would lead to lower demand. Given that India Inc has been aggressive in adding capacity (across sectors) over the past few years; with significant portion of capacity build ups being put on hold due to various reasons - it could very much lead to a situation of over capacity across various segments. In order to keep factories running, companies would tend to cut prices thereby leading to lower margins. With that happening, not only would they find it difficult to service loans, but would also naturally take a toll on the earnings. This would lead to an overall re-rating of companies.
As per rating agency Crisil, numerous downgrades are likely to happen in the coming future. The company believes that as much as Rs 1.1 trillion of loans would be due for restructuring. Given these financial strains, the proportion of bad loans is also likely to move up. As per estimates, it could go as much as 4% from the current levels of 3.3%.
Further, Crisil is of the view that nearly one-third of the 11,500 companies it rates are going to find it difficult to service their debts. This is largely the case for infrastructure related companies; from sectors such as power, construction, engineering and steel. And with the same happening, it would impact the credit rating of these companies as well as bring stress on the asset quality of banks.
What investors need to do in such times?
As stocks of many companies forming part of the sectors going through tough times seem to be trading at low valuation multiples, - many of which are close to or below book value - what should be the approach an investor can take? What ideally should be the aim is to pick stocks of companies that will survive these difficult times and avoid the ones that will not. One way to do so is by simply sticking with large, old timers. Having said that, what recent history has shown us is that the concept of too big to fail may not apply after all. You would have noticed in the past - especially post the financial crisis of 2008 - it does not take long before a largecap company's stock becomes a smallcap. As such, careful study of financial statements, amongst others aspects is warranted.