The level of indebtedness in India Inc does not really matter, at least, not in
the Indian stock market. In the current credit crisis, one would
have expected the stock market to give a greater punishment to companies with
high debt-to-equity (DER) compared with those with low level of leverage.
However, an ETIG analysis shows that the stock market has not taken cognizance
of this and stock prices of many companies with low DER have fallen as much as
their highly-indebted peers. The market has also overlooked interest coverage
ratio (ICR), a parameter that indicates the debt servicing capability of a
company. Stock prices of a few companies, with high ICR, have fallen as much
those with low ICR.
For example, the stock of Steel Authority of India (SAIL), has declined by 80%
since the beginning of the year despite having one of the industry's lowest
DERs at 0.16. In comparison, chronically, loss-making Ispat Industries with a
DER of close to 2.5 has lost 87% of its market value during the period.
So, in that sense, investors of SAIL are not much better off despite the
company's sound fundamentals. Similarly, Essar Oil with a DER of around three
has lost around 79% and this is close to a 76% decline observed in the case of
Mangalore Refinery and Petrochemicals (MRPL) and Chennai Petroleum despite
significantly lower DER. A similar trend is observed in the case of many other
stocks with high DER (please refer to the table for the details).
Other stocks in our list include Aban Offshore, Hindalco, Aditya Birla Nuvo,
Tata Motors, Mahindra & Mahindra, Jet Airways and Wockhardt, among others. Most
of these stocks have lost somewhere between 65% and 85% from the beginning of
this calendar year.
Debt as we all know is a leveraging instrument, which helps companies in lower
tax payment. And on the other side, it could make the company bankrupt in a
downturn because of higher interest expense if there is not enough operating
profit. And this increases the risk of the related stock. In a bear market,
such stocks become more risky and investors usually avoid exposure to such
stocks. However, this was not visible in the current scenario in the Indian
market.
For the purpose of this analysis, we have considered only the stocks of those
companies, which are part of BSE 500, with a market cap of more than Rs 1,000
crore. This is done to avoid small companies, which may have specific issues
and not comparable with the peers. Further, we have excluded banking and
financial services companies because of their reporting structure. Banking and
financial services companies are in the business of borrowing and lending.
Hence, the DER doesn't hold true for such companies. After these filtering
criteria, we were left with only 250 stocks.
Further, we considered a consolidated DER of 1.5, as our benchmark and that
left us with only stocks of 41 companies. The companies, which appeared in this
list, are from across all industries, including steel, oil & gas,
infrastructure, aviation and auto, among others.
Since a particular industry has its own issues and challenges, we compared the
stock performance of those players with higher DER to their industry peers
rather than a general comparison across the industries.
I keep six honest serving-men (They taught me all I knew); Their names are
What, Why, When, How, Where and Who.
-- Rudyard Kipling
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