There is a lot of talk about the bad loans crisis that the public sector banks are reeling under over the past few years. Credit Suisse had earlier looked at the issue from the perspective of the top 10 corporate houses in terms of bank borrowings. We present here a continuation of their analysis with some simple graphs. [Data Source: CMIE’s Prowess.]
I present here a plot of two important variables for a corporate house. One is the amount of bank loans taken in a particular year and the other is whether the firms were financially healthy enough to take the loan in the first place.
The latter is measured by whether they made enough profits in a particular period to even cover the interest payments accrued on past debts. As we all know any loan you take has two parts when the repayment starts: the principal (total loan amount) and the interest accrued on it (interest amount). For a firm to be financially healthy, it should make enough profits to cover for both [hedged firm]. On the other hand, an unhealthy firm is one which does not even cover its interest payments [ponzi firm]. It’s anybody’s guess that the latter should not be given more loans as that is sure shot recipe for disaster.
In financial jargon, the health of a firm is measured by what is called the Interest Coverage Ratio (ICR). It is a ratio of net profits (I am not going to bore you with definitions of net profits) to interest payments due. It being less than 1 is a danger sign for the lender because it means that the firm is not even making enough profits to pay for its past interest payment commitments.
Let’s look at the top 10 corporations (in terms of borrowing) identified by the excellent Credit Suisse 2012 report on the House of Debt. Firms are organised from the worst to worsening conditions of health here. I will present here one graph a day for each of these corporate houses for the audience to appreciate the importance of the issue at hand.
The blue line represents the health of the firm (ICR). Its fall is a sign of bad health but when it goes below the horizontal line, it’s a danger zone (ICR less than 1). The red line shows the amount of bank loan that the firm managed to freshly secure during a given year. Ideally the loans should fall with the deteriorating health of a firm but what we will find over the next week or so is the exact opposite for almost each of these corporate houses. If you find a scissor in these graphs, that’s an immediate sign of trouble. Let me draw an analogy here. It shows that with increasing diabetic problems in a patient (ICR falling), doctors (banks) are injecting more of sugar (loans) to the body of the patient! Let me start with the first one.
GVK POWER & INFRASTRUCTURE LIMITED