India’s Government-Owned Firms Pay A Hefty Price For Increased Borrowings
A stack of Indian one-hundred rupee banknotes are arranged for a photograph at a branch of the HDFC Bank Ltd. in Mumbai, India (Photographer: Dhiraj Singh/Bloomberg)

India’s Government-Owned Firms Pay A Hefty Price For Increased Borrowings

India’s government owned agencies and companies are paying a steep price for their borrowings, despite an implicit sovereign backing and low probability of default.

While borrowings costs for all Indian companies have risen due to tight liquidity conditions and risk-aversion in the credit markets, the spread, or the additional cost over sovereign bond yields paid by government firms, has also widened, shows data analysed by BloombergQuint.

In some ways, this is counter-intuitive since a risk-averse environment should increase appetite for firms where sovereign ownership limits the probability of actual default. However, investors aren’t seeing it that way. Instead, they are focused on the increased borrowings by these firms in recent times.

“The underlying macro-challenge is that there has been a higher reliance by these entities on borrowings instead of the government routing funding through the fiscal policy. This is why there is excess supply,” said Suyash Choudhary, head of fixed income at IDFC Asset Management Company.

Choudhary explained that the supply of bonds from government-owned enterprises has increased sharply between November 2018 and March 2019, even as liquidity and credit market conditions have tightened.

Quasi-Sovereign Agencies

According to Bloomberg data, total bond issuances by three large quasi-sovereign entities added up to Rs 38,400 crore, as of May 22, 2019. In 2018, the total bonds issued by these entities stood at Rs 51,900 crore.

The entities include the National Highways Authority of India, Indian Railway Finance Corporation and the Food Corporation of India.

NHAI, which closed a Rs 5,000 crore bond issue on May 20, 2019, paid a coupon rate of 8.36 per cent. The spread over the benchmark 10-year government bond stood at 99.6 basis points.

NHAI has around 12 special purpose vehicles for specific infrastructure projects, eight of which have incurred losses for the last three financial years, according to the bond prospectus. In FY17, the combined losses of the SPVs stood at Rs 12,215 crore.

For FCI, the spread is now at 160 basis points over the 10-year government bond yield. The government’s nodal food procurement agency has seen its finances weaken due to unpaid subsidy dues. As a result, FCI has been forced to borrow more. It raised a total of Rs 1.96 lakh crore in 2018-19, compared to a budget estimate of Rs 71,995 crore.

IRFC has seen a more modest widening of spreads. It issued bonds amounting to Rs 2,500 crore on March 1, 2019, at a coupon rate of 8.95 per cent, 84 basis points higher than the benchmark yield. The plan to list the entity on stock exchanges has been delayed by more than a year and therefore it has continued to be dependent on the Ministry of Railways for capital infusion to fund growth, according to an ICRA report.

Most PSUs Paying More

Besides quasi-sovereign entities, which are fully government owned, listed public sector undertakings have also seen their cost of borrowings rise.

The fallout of the liquidity crisis is now playing out on PSU bond spreads, as investors have been been concerned by the recent downgrades of AAA corporates, which has led to a rise in the risk premium for corporate bonds, said Ashwini Kapila, managing director at Barclays Bank.

For listed PSUs too, increased supply of bonds due to higher borrowings has led investors to demand higher coupon payments.

In the last three years, there has been a significant increase in borrowings by PSU entities due to the government’s budget constraints, which led to these firms funding their capital expenditure through higher borrowings, said Arvind Chari, head of fixed income and alternatives at Quantum Advisors Pvt. Ltd.

As a result the coupon rate for these recent issuances has risen, even though there is a historical record of no defaults for such bonds.

The current spread over government bond yields is a function of the excess supply of bonds and not any strong view on the underlying company’s financials, said Choudhary, while adding that spreads should realign once the quantum of outstanding bonds reduce.

For all AAA-PSU firms, the spread over the 10-year government bond yield is currently at a five-year high.
India’s Government-Owned Firms Pay A Hefty Price For Increased Borrowings

Among the entities that have had to pay more in recent weeks are Rural Electrification Corporation Ltd. and Power Finance Corporation Ltd.

PFC paid 160 basis points more than the sovereign bond yield, while REC paid 142 basis points more.

According to Chari the spread on these bonds has widened because of concerns linked to the merger between REC and PFC, given that the balance sheet strength of both entities is not very strong. PFC has an exposure to 22 stressed power assets in the private sector with a total exposure of Rs 28,200 crore, according to a report by Nirmal Bang Institutional Equities.

Housing and Urban Development Corporation Ltd. also saw spreads widen when it tapped the market this year.

PSU entities are borrowing from bond markets for refinancing purposes or for capital needs and not necessarily for operations, said a senior investment banker who spoke on condition of anonymity. He added that investors are wary that the capital is being used for refinance only.

PSU entities’ borrowings from bond markets mainly saw participation from mutual funds, but with debt mutual funds facing redemption pressures owing to the fallout of the NBFC crisis, Kapila does not expect spreads to narrow much at this juncture.

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