What’s the ‘twin balance sheet’ issue?
As the Economic Survey of 2016-17 said: “Corporations overexpand during a boom, leaving them with obligations that they can’t repay. So, they default on their debts, leaving bank balance sheets impaired... This combination then proves devastating for growth, as the hobbled corporations are reluctant to invest, while those that remain sound can’t invest much either because fragile banks are not really in a position to lend to them." Put simply, corporates overborrowed from 2003 to 2012, so they are unwilling to borrow more to invest and expand. Banks don’t want to lend as they don’t want to burn their fingers twice.
What does the new data suggest?
As a whole, corporates hadn’t overleveraged themselves, that is, borrowed more than they were in a position to repay. This was only true about some corporate groups. Data from the Centre for Monitoring Indian Economy shows that the debt-to-equity ratio of non-finance firms, which number more than 20,000, reached a 10-year peak of 1.16 in 2013-14 and 2014-15. This was high, but it used to be higher a decade earlier. Also, since then, the debt-to-equity ratio has fallen to less than one in 2017-18. All data for 2018-19 isn’t available, but initial estimates suggest the ratio will be under one during the year.
Does any other ratio also suggest this?
The interest coverage ratio suggests something similar. It is obtained by dividing the operating profit—earnings before interest and taxes—of a company, by its interest expense.
What does the interest coverage ratio imply?
The interest coverage ratio of non-finance companies in 2015-16 was 1.9 times. An interest coverage ratio of more than two typically suggests the company is in a position to continue repaying interest on its debt comfortably. In 2017-18, the interest coverage ratio had gone up to 2.2. This suggests that on the whole, Indian companies aren’t overleveraged and are in a position to borrow, invest and expand. However, they are still not doing that. Of course, there are many companies that continue to be overleveraged.
Why aren’t Indian companies investing?
The Economic Survey of 2018-19 says, “As investment is forward-looking, future expectations play a critical role in the decision to invest." If Indian companies are not borrowing and investing, that basically means they are not confident about India’s economic future. This stems from factors including economic uncertainty and the so-called demographic dividend unravelling big time. The lack of investment is not just about the twin balance sheet problem.
Vivek Kaul is an economist and the author of the Easy Money trilogy
