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The ugly side for Indian Inc
Fri, 23 Aug Pre-Open

The Indian rupee has fallen more than 15% against the US dollar so far this year. This sharp depreciation in rupee has numerous implications for the market. Since it affects dollar returns, falling currency affects investments by foreign investors, a dominant force in the Indian markets.

Further, it would lead to higher cost of imported goods which will push inflation and will not allow the central bank to cut interest rates and support growth. In fact, the Reserve Bank of India has taken measures to curb liquidity in the market in order to defend the rupee and, in the process, has significantly reduced the possibility of an interest rate cut in the foreseeable future.

However, the more important factor is that falling rupee will affect company earnings and, eventually, stock prices for companies with high foreign debt. Another point to look out for is that companies with short term debt and long cash conversion cycles could also be in trouble (even from the so called defensive sectors). A long working capital cycle will lead to credit problems only if accompanied by high leverage and low interest coverage (their ability to pay interest).

An analysis conducted of the BSE 200 list by Business Standard throws up at least nine companies that have debt/equity ratios of over two times and interest coverage less than two and a half times. Top on the list are Aban Offshore, Dish TV, HCC and Shree Renuka Sugars. The other five are Jaiprakash Associates, Bhushan Steel, Lanco Infratech, GMR Infrastructure and Essar Oil.

While debt levels of these companies are high, the rising interest rates will add to their woes. On top of that, operational pressure (on account of a slowdown in demand) has only made things worse, impacting their earnings.

In any case, even in normal circumstances, investors should avoid companies with very high levels of debt. And if the significant part of the debt is foreign and short term, it should be a red flag. With companies high on foreign debt, you are not only taking a normal business risk as an equity investor who understands the business of the company, but also a currency risk.

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