Recently, rating firm Moody's downgraded the outlook on Indian banks from stable to negative. Rising asset quality concerns (risk of increasing bad loans) amidst slowdown in the power & infrastructure sector was the biggest reason for the ratings downgrade. While this has raised many eyebrows as Indian banks have strict regulatory guidelines the assessment of loan portfolio doled out to the power distribution companies reveals an interesting story.
Non-performing assets (NPAs) of 36 listed banks have increased by 33% over the last one year. While no slippages have still been reported from the power sector one cannot rule out the possibility in the near future as majority of the distribution firms are bleeding in losses. Further, it may be noted that distribution utilities in few states like Bihar and Tamil Nadu have a negative net worth with significant loans outstanding on their balance sheet. While more than half of the loans are granted by Power Financial Corporation (PFC) and Rural Elect. (REC) the rest have come from banks. This indicates that asset quality concerns may arise if health of the distribution companies does not improve in the near future.
Currently, distribution utilities are struggling due to electricity thefts and inability to raise tariffs especially for the power that is supplied for agricultural purposes due to the vote bank politics involved here. Poor financial health means that the cost of debt is likely to rise further and liquidity woes (reluctance to lend) could magnify. While so far these utilities have not been classified as NPAs mounting losses is raising doubts over their repayment capacity.
However, as loans to these distribution companies are backed by government guarantees the probability of the portfolio turning into a bad asset is low. Nonetheless, delayed/slow payment not only affects the banks interest and liquidity profile it also upset's the fiscal consolidation targets of the state government. As majority of the distribution utilities are state owned losses at the distribution level and steps taken to inject liquidity (cash outflow) to keep them afloat may exert pressure on state finances.
Government is taking steps in improving the health of these distribution companies by entering into a debt-to-equity swap and providing them access to zero cost loans. However, this may only provide a temporary relief. Concrete steps must be taken to prevent power theft and improve transmission efficiencies so as to bring about any meaningful change in the financial health of these distribution companies.