fitch 03 rupee

Corporates

www.fitchratings.com 3 July 2012

India

Impact of Rupee Depreciation on Indian

Investment-Grade Corporates Largely On Stable Ground

Special Report

Limited Impact For Most: A sustained rupee depreciation is unlikely to have a negative

impact on the credit ratings for most investment-grade issuers that come under the Fitch

Ratings Indian National scale. Two hundred and seventy-four (accounting for over 92% of

outstanding debt) of 302 publicly rated issuers are unlikely to face a negative rating action

should the rupee trade between INR55/USD1 to INR60/USD1.

Some Negative Actions; Defaults Unlikely: The remaining 28 issuers may expect negative

rating actions, such as a change in Outlook or downgrade of the rating, in the event of

sustained rupee depreciation. Fitch does not expect any of these issuers to default.

Benefit For Exporters Capped: The positive impact on operating margins and leverage for

export-oriented companies, which typically benefit from currency depreciation, is expected to

be lower than historically observed. Fitch expects that lower demand in the global economy,

aggressive price renegotiations, hedging of foreign-currency exposures and the negative

impact of foreign-currency debt servicing will act to cap the benefit to credit profiles of

companies in the pharmaceutical, technology, textile, and mining sectors

Higher Prices Passed On: Some importers are able to pass on higher prices from

depreciation because of import parity price (IPP) practices prevalent in their industries, such as

companies in the oil and gas, or metals industry. Companies in the auto ancillary sector

typically have contracts to pass on higher costs to their original equipment manufacturers.

However, the slowdown in end-user demand may force companies in the auto ancillary sector

to absorb some of the price increases.

Bearing the Brunt: Companies in the chemical, fertiliser or paper industries tend to import a

significant portion of their raw materials, as do cement manufacturers without adequate

domestic coal links. They are unlikely to be able to pass on higher costs because of current low

demand, which will hurt margins. The credit profile for these sectors will be, on a relative basis,

most affected by rupee depreciation.

No Direct Forex Exposure: There is no direct operational exposure to foreign currency for 121

issuers (35% of overall debt). The potential benefit of reduction in global commodity prices to

margins for companies in sectors including real estate, metal processors, chemical processors

and print media will be offset to a large extent by the rupee depreciation.

Impact on Sub-Investment Grade: The potential positive operational impact on sub-

investment grade companies is likely to be more limited than that of corresponding investment

grade peers in industries such as textiles, technology and pharmaceuticals.

Worst-Hit Sector: Sub-investment grade companies in the chemical, metal processing and

trading (in processed and unprocessed imported commodities) industries are expected to face

lower margins, higher inventory levels and stretched working capital. They may be the worst

casualties of the rupee depreciation, particularly if they have limited financial flexibility.

Appreciation Unlikely: The rupee is unlikely to appreciate in the short term until global risk

aversion subsides, according to Fitchs analysis. On the contrary, the currency may depreciate

further if global risk aversion worsens.

Analysts

Deep N Mukherjee +91 22 4000 1721 [email protected] Muralidharan Ramakrishnan +91 22 40001732 [email protected] Sagar Desai +91 22 4000 1724 [email protected] Pragya Bansal +91 11 4356 7253 [email protected] Ashish Upadhyay +91 11 4356 7245 [email protected] Ashwini Picardo +91 22 40001787 [email protected] Tanu Sharma + 91 11 4356 7243

[email protected] N Raju +91 44 4340 1703 [email protected] Sudha Sundaram +91 44 4304 1705 [email protected] Vishal Bhawsinghka +91 33 4006 5884 [email protected]

Corporates

Investment-Grade Corporates

July 2012 2

Fitch-Rated Indian Corporates

The primary focus of this analysis is to evaluate the impact of rupee depreciation on the credit

profile of those investment grade companies with direct exposure to foreign exchange risk. The

analysis evaluates the stress that these issuers will experience if the rupee trades between

INR55/USD1 to INR60/USD1 for a sustained period of more than six months. Fitch notes that a

temporary fall to say INR60/USD1 for a very short period is unlikely to impair the balance sheet

strength of such investment-grade issuers.

Fitch analysed 302 issuers that are publicly rated at investment grade (Fitch BBB-(ind) and

above) according to Fitchs national scale. The total outstanding adjusted debt (gross debt plus

lease adjustment minus equity credit for hybrid instruments plus preferred stock) for this group

is INR8,639bn, of which about 25% is denominated in foreign currency, based on latest

available data.

Over 92% of the of overall adjusted debt is rated Fitch A(ind) or above. Over 97% of the

forex debt is with companies currently rated at Fitch A-(ind) or above. As such, these

companies are expected to weather any significant economic downtown.

Direct Forex Exposure

The direct exposure to forex risk can be operational in nature (due to the import of raw

materials or export revenue) or financial (foreign currency debt). 121 of 302 issuers (having

35% of the outstanding debt) have no direct operational exposure to forex risk.

Figure 3 Total Outstanding Debt (%) Exports as % of revenue

Imports as % of COGS Nil/insignificant 0.1 to 5.0 5.1 to 20.0 20.1 to 40

40.1 to 60.0

60.1 to 80.0

80.1 to 100

Nil/insignificant 35.0 0.1 0.4 0.0 0.0 0.0 0.4 0.1 to 5.0 0.6 0.1 0.1 0.0 0.0 0.0 0.1 5.1 to 20 6.2 3.8 0.6 0.2 0.0 0.5 0.2 20.1 to 40.0 0.1 3.9 9.1 4.6 0.2 0.6 0.0 40.1 to 60.0 5.1 3.6 7.1 0.3 0.3 0.7 0.1 60.1 to 80.0 1.6 0.0 0.0 0.0 0.0 0.0 0.0 80.1 to 100 0.9 0.0 0.3 2.4 10.6 0.1 0.0

Source: Fitch

The diagonal of the above table (yellow cells) marks companies that either have no operational

exposure or the value of imports is comparable to exports. However, cash flow mismatches

may still expose them to a limited amount of forex risk.

There are 15 issuers that have foreign currency debt (accounting for 5.46% of overall forex

debt) among 121 issuers without any operational forex exposure.

Figure 4 Total Foreign Currency Debt (%) Exports as % of revenue


40.1 to 60.0

60.1 to 80.0

80.1 to 100

Nil/insignificant 5.46 0.01 0.33 0.08 0.00 0.00 0.31 0.1 to 5.0 0.31 0.00 0.00 0.00 0.00 0.01 0.18 5.1 to 20 7.84 2.52 0.70 0.03 0.00 0.24 0.09 20.1 to 40.0 0.00 3.05 14.82 1.51 0.18 0.04 0.06 40.1 to 60.0 0.02 5.21 11.22 0.08 0.37 0.98 0.08 60.1 to 80.0 0.41 0.00 0.04 0.00 0.00 0.00 0.00 80.1 to 100 2.76 0.00 0.00 1.03 40.05 0.00 0.00

Source: Fitch

Figure 1 Debt Distribution by Rating

Ratings(national scale)

Proportion of outstanding adj

debt (%)

Fitch AAA(ind) 58.76 Fitch AA+(ind) 0.28 Fitch AA(ind) 11.96 Fitch AA-(ind) 3.17 Fitch A+(ind) 1.88 Fitch A(ind) 4.57 Fitch A-(ind) 12.19 Fitch BBB+(ind) 1.11 Fitch BBB(ind) 1.60 Fitch BBB-(ind) 4.10 Fitch A1+(ind) 0.22 Fitch A1(ind) 0.16 Fitch A2+(ind) 0.00

Source: Fitch

Figure 2 Forex debt distribution by Rating Ratings(national scale)

Proportion of forex debt (%)

Fitch AAA(ind) 67.30 Fitch AA+(ind) 0.43 Fitch AA(ind) 19.09 Fitch AA-(ind) 2.30 Fitch A+(ind) 1.06 Fitch A(ind) 1.41 Fitch A-(ind) 5.82 Fitch BBB+(ind) 0.49 Fitch BBB(ind) 0.65 FitchBBB-(ind) 1.42 Fitch A1+(ind) 0.00 Fitch A1(ind) 0.03 Fitch A3 (ind) 0.00

Source: Fitch

Related Criteria

Corporate Rating Methodology (August 2011)

Corporates


July 2012 3

89% of foreign currency debt is held by net importers. However within the net importers group,

90% of the foreign currency debt is held by just nine companies. Of them the lowest rating is

Fitch A(ind) . Five of them are at Fitch AAA(ind) and three are at Fitch AA(ind). These

issuers have significant cushion available in their respective ratings and they are comfortably

placed to weather any financial stress on account of significant rupee depreciation.

Impact on Debt

For companies with foreign currency debt, the rupee depreciation will affect the amount of debt

on balance sheets in addition to higher debt servicing amount (in rupee terms). Companies with

foreign currency loans will have debt increased by the factor in the table below. A value of

100% means no foreign currency debt, while, for example, a value of 101% means that debt

value has increased by 1.0% in rupee terms.

Figure 5 Impact of INR55/USD on Debt (In Percentage Point) Adjusted for Company-Specific Exposure to Foreign Currency Loans

Exports as % of revenue


40.1 to 60.0

60.1 to 80.0

80.1 to 100

Nil/insignificant 100 101 101 106 100 100 106 0.1 to 5.0 101 100 100 100 100 100 107 5.1 to 20 102 102 103 102 101 101 20.1 to 40.0 100 102 104 107 106 103 105 40.1 to 60.0 106 106 104 101 104 110 105 60.1 to 80.0 102 100 105 101 100 100 80.1 to 100 110 100 100 102 119 100 100

Source: Fitch

For net importing companies, a foreign currency loan (particularly if it is unhedged) will

aggravate the deterioration in leverage, while for net exporters it will limit the improvement in

credit profile.

EBITDA Impact of INR Depreciation

78 issuers (red cells in Figure 6), would have a negative operating impact. These issuers have

proportionately higher imports as a proportion of cost of goods sold(COGS) than revenue from

exports. However, the negative impact on EBITDA would be mitigated for more established

players with a conservative forex hedging policy. Net importers that are able to pass on the

rupee depreciation related cost (either by IPP or cost pass-through contracts) would be able to

protect their margins. In fact, in rare cases where the entities are able to fully pass on the cost

rise, the overall impact of EBITDA would be positive.

Figure 6 Impact of INR55/USD on EBITDA (In Percentage Points) Adjusted for Pass-Through of Relevant Sectors Exports as % of revenue

Imports as % of COGS

Nil/ insignificant 0.1 to 5.0 5.1 to 20.0 20.1 to 40

40.1 to 60.0

60.1 to 80.0

80.1 to 100

Nil/insignificant - 0.0 to 1.0 1.0 to 2.0 2.0 to 4.0 3.0 to 5.0 4.0 to 6.0 4.0 to 7.0 0.1 to 5.0 -0.5 to 0.0 0.0 1.0 to 2.0 2.0 to 4.0 3.0 to 5.0 4.0 to 6.0 4.0 to 6.0 5.1 to 20 -1.0 to -2.0 -1.0 to -2.0 0.0 to 1.0 1.0 to 3.0 3.0 to 5.0 3.0 to 6.0 20.1 to 40.0 -2.0 to -3.5 -1.0 to -3.0 0.2 1.0 to 2.0 2.0 to 3.0 2.0 to 4.0 2.0 to 4.0 40.1 to 60.0 -2.5 to -4.0 -0.0 to -4.0 -1.0 to -3.0 0.0 to 1.0 1.0 to 2.0 1.0 to3.0 2.0 to 4.0 60.1 to 80.0 -0.0 to -4.0 -2.0 to -4.0 -1.0 to -4.0 -1.0 to -3.0 0.0 2.0 to 4.0 80.1 to 100 -4.0 to -6.0 -4.0 to -6.0 1.0 to -4.0 -1.0 to -3.0 0.0 to -1.0 0 to 1.0 2.0 to 4.0

Source: Fitch

Net exporters (cells in blue in Figure 6) would expect significant margin improvement.

Corporates


July 2012 4

Sector-Wise Credit Impact

The section of report focuses on the impact of on credits from a rupee depreciation on sectors

where the impact (both positive and negative) is pronounced. These sectors are not only core

to the economy but also have significant representation in Fitchs investment grade national

rating universe.

These sectors form four groups:

Net exporters (pharmaceuticals, technology, mining and textiles)

Net importers with ways to mitigate depreciation (auto ancillary, oil and gas, metals)

Net importers without ways to mitigate depreciation (chemical, paper, cement)

Business model-driven exposure.

Figure 7

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Positive Neutral Negative

Impact by Industry(Proportion of total companies in the sector)

(%)

Source: Fitch

In the first three groups, most companies should show the specific trait (such as net exporter,

net importer) which is typical to the group. However, the impact from rupee depreciation would

vary across companies within the same sector. They would be determined by company-specific

policies regarding foreign currency hedging, foreign currency loans or sourcing strategy as well

as contractual obligations/renegotiation of prices with customers. In certain cases, the impact of

rupee depreciation may be completely opposite in comparison to the sector it operates

because of its specific business model.

Net Exporters

This sector consists of either pure exporters (cotton textile, technology and mining) or

companies where exports are much higher than imports (synthetic textile,pharmaceuticals and

jewellery). Historical data suggests that rupee depreciation may be an enabling factor but need

not be a driving factor for export growth.

Figure 8

-15

-10

-5

0

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10

15

20

-40

-20

0

20

40

60

80

2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011

Indian export growth (LHS) Invisibles (LHS) Rupee depreciation (RHS)(YoY %)

Limited Impact Rupee Depreciation and Indian Export Growth

Source: RBI, FItch

(%)

Corporates


July 2012 5

Exports (in dollar terms) from India grew at rates higher than 20% (yoy) from 2003 to 2008.

This period also coincided with historically high global GDP growth levels (in excess of 4.8%)

not observed since 1980 and correspondingly high global trade volumes. However over most of

the period the rupee appreciated against the dollar.

Thus while rupee depreciation would have a positive impact on majority of companies in these

sectors, a fall in global demand from historical levels may significantly limit the degree of the

positive impact. Additionally, aggressive price negotiation from corporate clients of such

exporters may potentially further limit the benefits.

Figure 9

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2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011

Global trade volume of goods and services (LHS)

Global GDP (%) constant prices (RHS)(YoY %)

Global Trade and GDP Growth

Source: IMF

(GDP %)

More established players in pharmaceuticals and technology, which typically hedge in excess

of 40% of their foreign currency exposure, may have a limited upside to credit profiles. Debt

servicing of foreign currency loans by a significant number of pharmaceutical and textile

companies is expected to limit improvement of credit profiles.

Pharmaceuticals

Of the 11 pharmaceutical companies rated investment grade, 10 are directly exposed to foreign

currency risk. In nine companies, the rupee depreciation is expected to have a positive impact.

The export data pertinent to this sector tend to suggest that global demand has a higher impact

on export volumes than the rupee exchange rate.

Figure 10

0

5

10

15

20

25

30

2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010

(%)

Source: RBI, FItch

Basic Chemicals, Pharmaceuticals, Cosmetics Export from India

Among Fitch-rated entities, companies that have net export surpluses and could see magin

benefits from the rupee depreciation are Aurobindo Pharma Ltd, Claris Lifesciences Limited,

Nectar Lifesciences Limited, Jubilant Life Sciences Limited and Arch Pharmalabs Limited.

However, the cash flow benefits for Aurobindo Pharma would be limited by its significant

foreign currency debt. Nonetheless, the rating headroom is expected to broadly remain

sufficient for most the Fitch-rated pharmaceutical entities if the exchange rate remains at

Rating headroom refers to the cushion

with respect to relevant rating metrics

(calculated at INR55/USD1) in

comparison to the negative rating

trigger.

Low: 10% and lower; Sufficient: 25% to

10%; Comfortable: above 25%

Corporates


July 2012 6

INR55/USD1 to INR60/USD1 for a sustained period. Fitch also notes that pharmaceutical

companies with a diverse geographical presence are also exposed to currencies other than the

dollar and other forex volatility could impact operating margins as well as leverage.

Technology

The impact of forex depreciation will be nominal for four of 13 technology companies rated by

Fitch. Details of the remaining nine are provided below:

Better-established software companies tend to hedge a higher proportion of their forex

exposure than relatively smaller players. Those companies that expose a higher proportion of

their cash flows to forex risk would temporarily enjoy higher margins, though the long-term risk

profile may not improve given the inherent higher volatility.

HCL Infosystems Limited is the only company in this group which may have a negative impact

on margins. The company imports significant proportion of its components, while it has

Figure 11 Pharmaceuticals

Company Subsector Rating Outlook Margin impact at INR55/USD1 (%)

Rating headroom (at INR55/USD1)


Foreign currency debt as % of total

debt

Aurobindo Pharma Ltd Pharmaceuticals Fitch AA(ind) Stable 2 to 3 Sufficient Sufficient 40 to 50 Jubilant Life Sciences Limited

Pharma - CRAMS, API, Formulations

Fitch A+(ind) Stable 4 to 6 Sufficient Comfortable 10.1 to 20.0

Nectar Lifesciences Limited

Pharma - API, Phytichemicals, Formulations

Fitch A(ind) Stable 2 to 3 Sufficient Sufficient 10.1 to 20.0

Claris Lifesciences Limited

Pharma - Formulations (Injectibles)

Fitch A(ind) Stable 2 to 3 Sufficient Sufficient 10.1 to 20.0

Himalaya Drug Company

Pharma - Others Fitch A(ind) Stable 2 to 3 Comfortable Comfortable -

Gland Pharma Limited Pharma - Formulations (Injectibles & pre-filled syringes)

Fitch A(ind) Stable 1 to 2 Sufficient Sufficient -

Vasudha Pharma Chem Limited

Pharma - API Fitch BBB+(ind) Stable 4 to 6 Sufficient Comfortable -

Fresenius Kabi India Private Ltd

Pharma Formulations

Fitch BBB(ind) Stable -5 Sufficient, linked to stronger parent

Sufficient, linked to stronger parent

10.1 to 20.0

Strides Arcolab Limited Pharma Formulations

Fitch BBB(ind) Stable 4 to 6 Sufficient Sufficient 30-35

Arch Pharmalabs Limited

Pharma - API, CRAMS Fitch A1(ind) - 0 to 1 Sufficient Sufficient 0.0 to 10.1

Source: Fitch, issuers annual reports

Figure 12 Technology

Company Sub-sector Rating Outlook

Margin impact at

INR55/USD1 (%)

Rating headroom

(at INR55/USD1) Rating headroom (at INR60/USD1)

Forex debt as proportion of total debt (%)

IBM India Pvt. Ltd Software Fitch AAA(ind) Stable n.a. Comfortable, stronger parental linkage

Comfortable, stronger parental linkage

0

MindTree Limited Software Fitch AA(ind) Negative 3.0 to 5.0 Low Sufficient 0 Infinite Computer Solutions (India) Ltd

ITES Fitch AA(ind) Stable 1.0 to 2.0 Sufficient Sufficient 0

HCL Infosystems c Hardware Fitch AA(ind) Negative -1.5 to 2.5 Low Low 0 Space Matrix Limited ITES Fitch A(ind) Stable 4.0 to 6.0 Sufficient Comfortable 0 Semantic Space Technologies Limited

Software Fitch A(ind) Stable 4.0 to 6.0 Sufficient Comfortable 0

Megasoft Ltd. Software Fitch BBB(ind) Negative 3.0 to 5.0 Low Sufficient 70 Ninestars Information Technologies Limited

ITES Fitch BBB(ind) Stable 4.0 to 6.0 Sufficient Comfortable 0

IBS Software Services Private Limited

Software Fitch BBB(ind) Stable 3.0 to 5.0 Sufficient Sufficient 8


Corporates


July 2012 7

significant fixed cost contacts for systems integration and computing. However, the company

has been trying to convert dollar-denominated purchases into rupee-denominated buying.

ITES segment has exhibited relatively higher margin expansion with respect to rupee

depreciation than pure software players. The sector may benefit against competitors from

countries such as the Philippines whose currency has appreciated relative to the rupee (see

Appendix 1).

Mining (Iron Ore)

Fitchs portfolio of mining companies mainly comprises iron ore miners. These companies

derive about half of their revenues from exports. Of the six companies in this sector, which are

rated in investment grade, five are directly impacted by rupee depreciation.

Figure 13 Mining (Iron Ore)

Company Rating Outlook

Margin impact at

INR55/USD1 (%)

Rating headroom (at INR55//USD1)


Forex debt as

proportion of total debt

Rungta Mines Ltd. Fitch AA(ind)

Stable 2.0 to 4.0 Comfortable Comfortable -

Rungta Sons Pvt Ltd Fitch AA(ind)


Feegrade & Company Private Limited

Fitch AA(ind)


Bonai Industrial Company Limited

Fitch AA(ind)


Mangilall Rungta Fitch A(ind)



These companies typically do not extensively hedge their foreign currency exposure. The price

of iron ore fines (63% Fe content) have fallen by over 20% to about USD140 per tonne as of

May 2012 from USD180 levels as of September 2011.

Policy changes, such as the increase in export duty to 30% from 20% from December 2011,

also have an impact on their export competitiveness. Therefore, the companies are

increasingly focussing on domestic markets. Given the falling global commodity prices and the

reduction in export competitiveness, these companies would be able to get limited benefit from

rupee depreciation. These companies do not have foreign currency loans. Overall the credit

profile may marginally improve due to rupee depreciation.

Textiles

The rupee depreciation would have a overall positive impact on the texitle sector. Howver, the

degree of positive impact will be more limited than observed historically given the muted

demand in customer countries. Historically export volumes for segments such as cotton

yarn/fabric and synthetic yarn/fabric have benefitted the most from rupee depreciation. The

export volumes of ready-made garments had limited benefit of rupee depreciation in the past.

Incremental volume growth may not be expected, particularly in cotton textile (as it is relatively

less affordable than synthetics) and ready-made garments.

Additionally, the extent of margin benefit may be muted for more well established players who

tend to hedge substantial portion of forex exposure. For instance, Bhartiya International Limited

(Fitch A(ind)/Stable) hedges up to 70% of its forex exposure. For Orient Fashions Exports

Private Limited (Fitch BBB(ind)/Stable), the forex gain has been negated by forward hedge

positions at a lower-than-prevailing USD/INR exchange rate.

Corporates


July 2012 8

Figure 14

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2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011

Global GDP constant prices (RHS) Rupee depreciation (RHS)Cotton yarn, fabrics (LHS) ManMade yarn, fabrics (LHS)Readymade garments (LHS)

(%)

Textile Exports Growth (USD Value Terms) in realtion to Global GDP and USD/ INR Exchange rate

% change in INR/USD. Negative value indicate INR appreciation against USDSource: RBI and Fitch

(%)

a

a

Indian textile exporters may enjoy increased competitiveness as the rupee has on a relative

basis depreciated against competing nations such as China and Bangladesh. However, large

institutional buyers may renegotiate prices or demand for discounts. In some cases they may

demand a rupee quote as opposed to the usual practise of a dollar quote. Of the 12 companies

in this sector, which are rated in investment grade, in four companies the direct impact of

foreign currency depreciation will be insignificant. The details of the remaining eight issuers are

provided in Figure 15.

Figure 15 Textiles

Company Sector Rating Outlook

Margin impact at

INR55/USD (%)



Foreign currency

debt as % of total debt

Rupa & Company Limited

Textiles - Hosiery

Fitch A(ind)

Stable 0.0 to 1.0 Comfortable Sufficient 10.1 to 20.0

Welspun Global Brands Limited

Textiles - Home Textiles

Fitch A(ind)

Negative 4.0 to 6.0 Sufficient Sufficient 0.1 to 10.0

Bhartiya International Limited

Textile - Leather Garments

Fitch A(ind)

Stable 4.0 to 6.0 Sufficient Sufficient -

Eastman Exports Global Clothing (P) Ltd

Textiles - Garments

Fitch A(ind)

Stable 4.0 to 6.0 Sufficient Sufficient 60.0 to 70.0

Balkrishna Synthetics Ltd

Textiles - Processing

Fitch BBB(ind)

Negative 0.0 to -1.0 Low Low -

Dattatreya Textiles Pvt Ltd

Textiles - Yarn

Fitch BBB(ind)


Sundaram Textiles Limited

Textiles - Yarn

Fitch BBB(ind)


Orient Fashion Exports Private Limited

Textiles - Garments

Fitch BBB(ind)



Gems and Jewellery

In Fitchs investment grade universe there are two companies in the gems and jewellery sector.

Suashish Diamonds Limited (Fitch BBB/Stable) is an exporter and would likely be positively

affected operationally. BC Sen & Company Limited is a domestic jewellery retailer. Most gem

Corporates


July 2012 9

and jewellery exporters are expected to have a benefit operationally. However a lot of such

exporters were thus far generating significant other income because of the low US dollar Libor

rate, a high domestic fixed-deposit rate and favourable dollar/rupee forward rates. This income

was often 12% to 15% of the PBT of such companies. However, this profit opportunity is likely

to diminish given the reduction in domestic deposit rate and a rise in dollar /rupee forward

rates. Thus the observable incremental benefit to margins (due to rupee depreciation) may

actually be negated in case of some companies.

Importers With Ways to Mitigate Depreciation

This group essentially consists of industries that are net importers. They are usually able to

pass on cost hikes from the rupee depreciation either due to IPP norms followed in the industry

(eg oil and gas, steel and non-ferrous metals). However, there are sectors such as auto

ancillary where the cost rise is passed on to the original equipment manufacturer (OEM) as per

contract.

Auto and Related

Of the 29 investment grade companies in this sector, for three companies the direct impact of

foreign currency depreciation will be insignificant. The details of 26 issuers are provided below:

Fitch-rated auto suppliers are likely to remain largely unaffected by current or even sharper

rupee depreciation. Within this sector there is a subsector of companies which would clearly

benefit from export revenue ( assuming stable demand in their export market) while the other

subsector would consist of companies that are net importers but would be able to pass through

to the OEM a significant portion of the price rise due to rupee depreciation.

Figure 16 Auto and Related

Company Rating Outlook Margin impact at INR55/USD1 (%)



Forex debt as proportion of total

debt (%)

WABCO India Limited Fitch AA+(ind) Stable 0.0 to 2.0 Comfortable Comfortable 0 Satyam Auto Components Limited Fitch AA(ind) Stable -1.0 to 0.0 Comfortable Comfortable 0.1 to 10.0 Ashok Leyland Ltd. Fitch AA(ind) Stable 0.0 to 1.0 Sufficient Sufficient 50 to 60 Shriram Pistons and Rings Limited Fitch AA(ind) Stable 0.0 to 1.0 Comfortable Comfortable 0 Tata Marcopolo Motors Ltd Fitch A(ind) Stable -1.0 to 0.0 Sufficient Sufficient 0 Hi-Tech Gear Limited Fitch A(ind) Stable 1 to 3 Sufficient Sufficient 10 to 20 Steel Strips Wheels Limited Fitch A(ind) Stable Insignificant Low Low 0 Unitech Machines Limited Fitch A(ind) Negative 0.0 to 1.0 Low Low 0 Sterling Tools Limited Fitch A(ind) Stable -1.0 to 0.0 Sufficient Sufficient 0 TVS Srichakra Limited Fitch A(ind) Stable 0.0 to 1.0 Sufficient Sufficient 0 Sandhar Technologies Limited Fitch A(ind) Stable -1.0 to 0.0 Comfortable Sufficient 0.1 to 10.0 Minda SAI Limited Fitch BBB+(ind) Stable -1.0 to 0.0 Sufficient-linked to

parent Sufficient, linked to parent

0

Talbros Automotive Components Limited

Fitch BBB+(ind) Stable 0.0 to 1.0 Sufficient Sufficient 0

Imperial Auto Industries Limited Fitch BBB+(ind) Positive 0.0 to 1.0 Comfortable Comfortable 0 Minda Corporation Fitch BBB+(ind) Stable 0.0 to 2.0 Comfortable Comfortable 50 to 60 QH Talbros Limited Fitch BBB(ind) Positive 1 to 3 Sufficient Sufficient 0 Lifelong Meditech Limited Fitch BBB(SO)(ind) - 3 to 5 Sufficient-linked to


20 to 30

Deltronix India Limited Fitch BBB(ind) Stable -1.0 to 0.0 Sufficient Low 0 Indo Farm Equipment Limited Fitch BBB(ind) Stable 0.0 to 1.0 Sufficient Sufficient 0 Pooja Forge Limited Fitch BBB(ind) Stable 0.0 to 1.0 Sufficient Sufficient 10 to 20 Emitec Emission Control Technologies Private Limited

Fitch BBB(ind) Stable - 2.0 to -4.0 Sufficient Low 0

Lifelong India Limited Fitch BBB(ind) Stable 0.0 to 1.0 Sufficient Sufficient 30 to 40 Motherson Advanced Tooling Solutions Limited

Fitch BBB(ind) Negative Insignificant Low Low 0

Punch Ratna Fasteners Pvt Ltd Fitch BBB(ind) Stable - 2.0 to -4.0 Sufficient Low 0 Jubilant Motorworks Pvt Ltd Fitch BBB(ind) Stable 0.0 to 1.0 Sufficient-linked to


0

Tulsi Castings and Machining Limited

Fitch BBB(ind) Stable 0.0 to 2.0 Low Low 30 to 40


Corporates


July 2012 10

Net exporters such as QH Talbros Limited, Ashok Leyland Ltd., Hi-Tech Gears Limited, Minda

Corporation Limited and Beri Udyog Private Limited are expected to be positively impacted in

terms of operating cash flow.

The second subcategory of companies has historically been able to pass on the cost rise to the

OEM. However Fitch believes that the auto OEMs currently experiencing lower demand would

be resistant to the past practise. Fitch believes that these price rises would be shared through

the entire auto supply chain. Thus the benefits of rupee depreciation on this sub-category of

auto ancillary companies margin would be lower than would have been expected from historical

observations.

The auto and related sector has a relatively higher proportion of companies having a hedging

strategy. Within the 29 companies in this sector, 18 have a consistent forex hedging strategy,

where on an average 40% to 60% of the foreign currency exposure is hedged. This is expected

to moderate the impact of rupee depreciation.

Negative impact on operating margins may be expected on companies including Punch Ratna

Fasteners Pvt Ltd, Sterling Tools Limited and Deltronix India, which have significant imports.

However, the rating headroom is sufficient in most instances.

Fitch notes that the Indian subsidiaries and joint ventures of global suppliers would be worst hit

owing to very high dependence on parents for input materials and components. Emitec

Emission Control Technologies Private Limited is one such example.

On a positive note, Fitch could see stepping up of efforts to localise some of these imported

input materials as well as the components by OEMs, which would benefit the domestic auto

suppliers in the medium term.

Corporates


July 2012 11

Oil and Gas

Of the 14 investment grade companies in this sector, for 10 companies the direct impact of

foreign currency depreciation will be insignificant. The details of the remaining four issuers are

provided below:

Figure 17 Oil and Gas


Margin impact at

INR55/USD (%)




Indian Oil Corporation Ltd (IOC)

Fitch AAA(ind) Stable Linked to Sovereign

Linked to Sovereign

38

Hindustan Petroleum CorporationLtd (HPCL)

Fitch AAA(ind) Stable Linked to Sovereign

Linked to Sovereign

19

Reliance Industies Ltd (RIL)

Fitch AAA(ind) Stable 0.0 to-1.0 Comfortable Comfortable 90

Petronet LNG Ltd

Fitch AA(ind) Stable 0.0 to-1.0 Comfortable Comfortable 50

Essar Oil Ltd

Fitch BBB(ind) Stable -1.0 to-3.0 Low Low 10

The public sector oil marketing companies are compensated by government for such under-recoveries losses that arise by selling the products at lower than market determined prices. Such compensation mechanism is ad-hoc and is difficult to analytically project. Source: Fitch, issuers annual reports

The impact of INR depreciation on Fitch rated oil and gas companies can differ across public

sector entities (PSE) such as IOC, HPCL and private refiners like RIL and Essar Oil Ltd .

Private refiners that import the bulk of their raw material could see their operating profitability

fall in the range of 1% to 3% if an exchange rate of INR55/USD persists. Exports for RIL (50%-

60% of revenue) and Essar Oil (20%-40% of revenue ) can only provide limited mitigation.

Though these companies export a large part of their refined petroleum products, the prices of

many of these crude derivative or petrochemicals is determined by the demand-supply situation

of end-products. This makes the pass-through of high input prices difficult.

Forex borrowings for most of Fitch-rated oil and gas companies are low (0-20% for Essar,

HPCL) to moderate (20%-50% for IOC, Petronet) except for Reliance, which has about 90% of

its borrowing denominated in forex. Since public sector enterprises are rated based on their

strong linkages with government of India, Fitch does not expect their ratings to be impacted by

currency movements. Reliances credit metrics could be weakened because of its significant

forex borrowings and the likely impact of a rupee depreciation on its operating profitability.

However it is still likely to remain very comfortable for its rating level.

On the contrary, the impact of sustained rupee depreciation on Essar Oils operating

profitability and financial leverage despite low forex borrowings could stretch its credit

metrics beyond the agencys comfort level.

Metals

Globally, the price has fallen for ferrous and key non-ferrous metals over the last 12 months

(steel about 14%, aluminium 25%, copper 19%). However, due to IPP and rupee depreciation

the prices in Indian market have remained broadly unchanged from levels seen a year ago.

Thus operating margins of Indian metal producers are expected to get substantial support from

the rupee depreciation against global fall in metal prices. The extent of a benefit would depend

on degree of backward integration (with respect to ore mines and links to coal mines), with

more integrated players likely to receive a higher benefit. This industry has high dependence

on imported coal/coke, and would be to the same extent, adversely affected by rupee

depreciation.

Corporates


July 2012 12

Ferrous - Primary Steel Producers

Among Fitch rated Primary Steel producers Tata Steel Ltd (TSL) and Steel Authority of India

Ltd (SAIL), which have relatively higher levels of vertical integration, are expected to receive

more cushion from the rupee depreciation against a fall in margins. However, players with

limited or no vertical integration (such as RINL) would be more adversely affected. Not only do

these companies have to import coke but the iron ore from domestic market would be more

expensive by 10%, given the hike of iron ore by NMDC Ltd, India's largest iron ore miner.

Figure 18 Ferrous - Primary Steel Producers


Margin impact at INR55/USD

(%)



Forex debt as

proportion of total

debt (%)

Steel Authority Of India Limited

Fitch AAA(ind)

Stable 0 to -1.5 Sufficient, linked to sovereign

Sufficient, linked to sovereign

28

Rashtriya Ispat Nigam Limited (RINL)

Fitch AA(ind) Stable -1.0 to -3.0 Low Low 17

Tata Steel Limited (TSL)

Fitch AA(ind) Stable 0.0 to -1.0 Sufficient Low 4

Bhushan Power and Steel Limited (BPSL)

Fitch A(ind) Stable 0.0 to 1.0 Low Low 4


Fitch believes the ability of steel producers to increase prices is limited because of the current

weak end-user demand. Foreign currency loans will also result in higher financing charges and

lower net profits. However in most cases the rating is unlikely to be affected given the sufficient

rating headroom. The exception is BPSL. Its export business is expected to have a positive

impact on margin. However BPSL has low rating headroom given its existing high leverage on

account of its capacity expansion.

Alloy/Specialty Steel and Steel Products

Alloy/speciality steel producers using electric arc furnace for steel making are largely

dependent on steel scrap (mostly imported) for their operations. Global scrap prices have

softened by 6% as of end-May 2012 (from end-March 2012) as against a steeper fall of 10% in

the USD/INR rate during the same period. Such companies usually enjoy some sourcing

flexibility as scrap iron may (to an extent) be replaced by sponge iron. However, their sourcing

flexibility may be limited because of the disruption in operations of many small sponge iron

companies located around Karnataka and Goa due to problems relating to iron ore mining.

Figure 19 Alloy/Specialty Steel and Steel Products


Margin impact at

INR55/USD (%)

Rating headroom at INR55/USD1


Forex debt as

proportion of total debt (%)

Usha Martin Limited

Fitch A+(ind) Stable 0 to -1.0 Low Low 44

Mahindra Ugine Steel Company Ltd (MUSCO)

Fitch BBB+(ind) Rating Watch Evolving

-1.0 to -3.0 Under review Under review

0

Adhunik Metaliks Limited

Fitch BBB(ind) Stable 0 to -1.0 Sufficient Sufficient 0


Fitch notes that the profitability of Usha Martin (significant vertical integration with captive iron

ore and coal) and Adhunik Metaliks (limited vertical integration with captive iron ores) would

experience limited negative impact on the operating margins as opposed to MUSCO (no

Corporates


July 2012 13

vertical integration). In the event of sustained rupee depreciation at levels of INR55/USD and

above the credit profile of MUSCO and Usha Martin (44% of debt in foreign currency) may

experience pressure on their credit profile.

Steel Processors/Converters

Steel processing companies (such as Uttam Galva Steels Limited) primarily are source hot

rolled coils and produce value added products. The prices of the value added products are

linked to prices of hot rolled coils. Fitch notes that the pressure on profitability is likely on

account of the limited ability to pass on higher costs due to subdued demand from end-user

industries. These companies have low amount of forex debt so the impact on their capital

structure will be limited.

Figure 20 Steel Processors/Converters


Margin impact at

INR55/USD (%)




Uttam Galva Steels Limited

Fitch A(ind) Stable 0.0 to 0.5 Low Low 7

Source: Fitch,Issuer Annaul report

Non-Ferrous Aluminium

The depreciation of rupee against the dollar has largely helped Indian primary producers of

aluminium during the last couple of months. In absence of rupee depreciation, the marginal

cost of production would have been close to the market price for non-integrated producers such

as Vedanta Aluminium Ltd. Fitch believes the rupee depreciation would alleviate the pressure

on profitability to a certain extent.

Figure 21

20

40

60

80

100

120

140

1,000

1,500

2,000

2,500

3,000

3,500

Jun 08 Dec 08 Jun 09 Dec 09 Jun 10 Dec 10 Jun 11 Dec 11 Jun 12

LME Al (LHS) MCX aluminium (INR/kg) (RHS) USD/INR (RHS)(USD/ton)

Indian Aluminium PricesIn relation to global prices and USD/ INR

Source: Fitch

Figure 22 Non-Ferrous Aluminium


Margin impact at

INR55/USD (%)




Vedanta Aluminium Ltd (VAL)

Fitch A(ind) Rating Watch Positive

0.0 to -1.0 Comfortable, with parental linkage

Comfortable, with parental linkage

5


Fitch notes further reduction of global aluminium prices and lowering of domestic demand may

put pressure on the profitability of such companies.

Corporates


July 2012 14

Non-Ferrous - Copper

Most Indian copper producers are custom smelters and import a significant part of copper

concentrate. Thus these companies are more impacted by the volatility in tc/rc (treatment and

refining) margins and prices of by-products. The spot tc/rc margins for copper companies have

declined during H2FY12. Consequently the depreciation of the rupee may to some extent

mitigate the pressure on profitability on account of lower tc/rc margins.

Figure 23

20

30

40

50

60

70

80

90

100

1,0002,0003,0004,0005,0006,0007,0008,0009,000

10,00011,000

Jun 08 Nov 08 May 09 Oct 09 Mar 10 Aug 10 Feb 11 Jul 11 Dec 11 Jun 12

LME Copper (USD/ton) (LHS) INR prices/10 KG (LHS) USD/INR (RHS)

Indian Copper PricesIn relation to global prices and USD/ INR

Source: Fitch

However, the fall in the rupee will also result in these companies dependent on imported coal

not being able to benefit from the falling global thermal coal prices. The same is similar for

silver, one of the by-products, to a certain extent. Consequently Fitch believes that operating

profitability of copper companies is likely to be under marginal pressure on account of forex, but

it may not result in significant negative impact on their credit quality. Fitch notes that in case of

Sterlite Industries India Ltd, the increase in debt levels because of rupee depreciations will not

impact the credit profile given the negative net debt position of the company.

Importers Without Ways to Mitigate Depreciation

This group essentially consists companies, where the cost rise due to imported goods may not

be directly passed on the customers. At best, the fertiliser sector would expect compensation in

the form of subsidies from government but there is typically a lag in getting subsidies.

Fertiliser

All four Fitch-rated investment-grade fertiliser companies will feel the impact of the rupee

depreciation.

Figure 24 Fertiliser


Margin impact at

INR55/USD (%)

Rating headroom (at INR55/USD)



Gujarat State Fertilisers & Chemicals Limited (GSFC)

Fitch AA+(ind)

Stable -1.0 to -3.0 Comfortable Sufficient 0

Coromandel International Ltd (CIL)

Fitch AA+(ind)

Stable -2.0 to -4.0 Low Low 48

Tata Chemicals Limited (TCL)

Fitch AA(ind)

Stable 0 to -1.0 Low Low 76

Indian Farmers Fertiliser Cooperative Limited (IFFCO)

Fitch AA(ind)

Stable -1.0 to -3.0 Low Low 0


Corporates


July 2012 15

India typically imports more than 70% of its non-urea fertiliser. Producers of non-urea fertiliser

(such as, di-ammonium phosphate (DAP), nitogen, phosphorous and potassium (NPK) based

fertilisers) have the flexibility to raise prices and are currently evaluating price rises in response

to rupee depreciation. The government, however, in April announced it is cutting its non-urea

subsidy by 27%. This will increase the price differential with urea, (whose price is regulated by

government) so farmers may instead shift to using urea. This would be to the detriment of the

non-urea-based fertiliser companies. Thus the benefits of a price rise in response to rupee

depreciation may not be fully realised.

The four companies (TCL, GSFC, CIL, IFFCO) draw significant revenue from non-subsidy

products and non-fertiliser products, which would cushion the margin squeeze. While the

margins are expected to be affected, the credit profile of TCL, IFFCO,GSFC are unlikely to be

stressed further if the rupee remains around the current levels of INR55/USD to INR56/USD for

a sustained period. However, a sustained rate of INR60/USD coupled with deterioration in

ability to pass on the cost rise may deteriorate the credit profile.

Chemicals

Of the 10 companies in the chemical industry that are rated at investment grade by Fitch,

seven will be negatively impacted while three will be positively impacted. Chemical companies

typically do not enjoy any shield such as import parity pricing or cost pass-through contracts

with customers. Given the slowdown in industrial demand for chemicals, even limited cost-pass

through may further deteriorate demand. Some chemical companies might be saddled with

large high-value inventory but with limited ability to pass on the cost.

Figure 25 Chemical

Company Rating Outlook Margin impact at

INR55/USD (%) Rating headroom (at INR55/USD)



Supreme Petrochem Ltd. Fitch A(ind) Stable -1.0 to -3.0 Low Low 3 National Peroxide Limited Fitch A(ind) Stable 0 to -1.0 Sufficient Sufficient 0 JBF Industries Limited Fitch A(ind) Stable 0.0 to 1.0 Sufficient Sufficient 19 DCW Ltd. Fitch A-(ind) Stable -2.0 to- 4.0 Sufficient Low 23 Kalpena Industries Limited

Fitch A(ind) Stable 0 to -1.0 Low Low 31

Visen Industries Limited Fitch A(ind) Stable -2.0 to -4.0 Low Low 60 Balaji Amines Limited Fitch A(ind) Stable 0.0 to 1.0 Sufficient Sufficient 0 Sah Petroleums Limited Fitch BBB+(ind) Stable -2.0 to -4.0 Low Low 0 India Glycols Limited Fitch BBB+(ind) Positive 0.0 to 1.0 Comfortable Comfortable 40 Chemplast Sanmar Ltd. Fitch BBB(ind) Stable -3.0 to -5.0 Low Low 0


Corporates


July 2012 16

Paper

The profitability of Indian paper manufacturers has been negatively impacted in financial year

ending March 2012 (FY12) and the slide is expected to continue for the next few quarters of

FY13. The depreciation of rupee is partly responsible for this fall in profitability as a significant

part of input requirements is met through imports (pulp and coal). This ranges from about 30%

in case of Ballarpur Industries to about 15%-20% for JK Paper and NR Agrawal. And even for

companies that do not import pulp, the domestic prices of pulp and other alternative materials

(such as waste paper) are linked to import parity prices, so are indirectly impacted by

unfavourable currency movements. Fitch estimates that the operating profitability of its rated

paper companies can decline as much as 2%-4% if the current INR/USD exchange rate

persists for the entire year. Apart from the direct impact of exchange movements, the operating

profitability could get stressed due to lower selling prices. This seems a near-term possibility

due to anticipated overcapacity.

The combined effect of currency movements and the industry scenario of anticipated over

capacity would likely lead to stretching of the credit metrics of many rated paper companies.

Further, due to dollar-denominated borrowings, the credit metrics of the companies such as NR

Agrawal and Ballarpur Industries, could stretch beyond the agencys comfort levels.

Figure 26 Paper

Company Rating Outlook Margin impact at INR55/USD) (%)




debt (%)

Ballarpur Industries Limited

Fitch AA(ind) Stable -1.0 to -3.0 Low Low 40.0 to 50.0

BILT Graphic Paper Products Limited

Fitch AA(ind) Stable 0.0 to -1.0 Low Low -

The Mysore Paper Mills Ltd

Fitch AA(ind) (SO)(EXP)

Stable 0.0 to -1.0 Sufficient, linked to government of Karnataka

Sufficient, linked to government of Karnataka

-

JK Paper Limited Fitch A(ind) Stable -2.0 to -3.0 Comfortable Comfortable 20.0 to 30.0 Shree Shyam Pulp and Board Mills Limited

Fitch BBB+(ind) Negative 0.0 to -1.0 Low Low -

Sripathi Paper and Boards Private Limited

Fitch BBB(ind) Negative -2.0 to -3.0 Low Low -

NR Agarwal Industries Ltd

Fitch BBB(ind) Negative -1.0 to -2.0 Low Low 10.1 to 20.0

Nithya Packaging Private Limited

Fitch BBB(ind) Stable -1.0 to -2.0 Sufficient Sufficient -


Corporates


July 2012 17

Cement

The rupee depreciation will hit cement companies because they depend on imported coal for

production. Coal comprises around 15%-20% of total production costs. Big cement companies

with a pan-India presence like ACC Ltd (Fitch AAA(ind)/Stable/Fitch A1+(ind)) imports around

20% of its coal while Ambuja Cements Limited (Fitch AAA(ind)/Stable/Fitch A1+(ind)) imports

around 35%. The level rises to 45% for Ultratech Cement Limited. Most cement companies

based in southern India largely depend on imports for their coal requirements. Fitch notes that

given the overcapacity in the industry the cement companies will have limited ability to pass on

increase in cost to their final customers.

Capex will rise for companies importing equipment and machinery. However, many cement

plants have deferred or stalled expansion projects due to the prevailing economic environment.

Business-Model Driven Exposure

Diversified Manufacturing

The impact of forex depreciation will be nominal for four of the 22 Fitch-rated investment-grade

diversified manufacturing companies. The details of the remaining are provided below:

This group consists of specialised manufacturers across different industries. The 13 issuers

that are expected to positively benefit from sustained rupee depreciation have significantly

higher exports than imports. Exports relate to industrials (Axiom Cordage, Responsive

Industries Limited,), capital goods (Fouress Engineering, Caterpillar India) and consumer

discretionary (Mainetti India, Primacy Industries). However, the positive benefit due to rupee

depreciation may be limited because of a slowdown in key export markets.

Figure 27 Diversified Manufacturing

Company Rating Outlook Margin impact at

INR55/USD (%) Rating headroom (at INR55/USD)



debt (%)

Caterpillar India Private Limited Fitch AAA(ind) Stable 4.0 to 6.0 Comfortable, linked to parent

Comfortable, linked to parent

0

Greaves Cotton Ltd Fitch AA(ind) Stable -2.0 to 0.0 Sufficient Sufficient 0 Owens-Corning (India) Private Limited Fitch AA(ind) Stable 2.0 to 0.0 Comfortable Comfortable 100 SRF Limited Fitch AA(ind) Stable 0.0 to 1.0 Comfortable Comfortable 68 HEG Limited Fitch AA(ind) Negative 3.0 to 1.0 Low Low 0 English Indian Clays Limited Fitch A(ind) Stable 0.0 to 1.0 Sufficient Sufficient 32 Videocon Industries Limited Fitch A(ind) Stable -2.0 to 0.0 Under review Under review 16 Rain Commodities Ltd Fitch A(ind) Stable 0.0 0 Axiom Cordages Limited Fitch A(ind) Stable 2.1 to 4.0 Comfortable Comfortable 82 Responsive Industries Limited Fitch A(ind) Stable 0.0 to 2.0 Comfortable Comfortable 0 Fouress Engineering India Limited Fitch BBB+(ind) Negative 2.0 to 0.0 Low Low 0 Jain Irrigation Systems Ltd Fitch BBB(ind) Negative 3.0 to 1.0 Low Low 0 Primacy Industries Limited Fitch BBB(ind) Stable 4.0 to 6.0 Comfortable Comfortable 23 Mainetti (India) Pvt Ltd Fitch BBB(ind) Stable 3.1 to 5.0 Comfortable Comfortable 20 Bhansali Engineering Polymers Limited Fitch BBB(ind) Stable -3.0 to -1.0 Sufficient Sufficient 0 Rangsons Electronics Pvt Ltd Fitch BBB(ind) Stable 0.0 Sufficient Sufficient 0 ZF Electronics TVS (India) Pvt Ltd Fitch BBB(ind) Stable 1.0 to 3.0 Comfortable Comfortable 0


Corporates


July 2012 18

Indirect Impact of Rupee Depreciation

These are companies that would essentially be purchasers of commodities linked to IPP. Their

business models are comparable to net importers to the extent that the inflated cost (due to

rupee depreciation) of their raw materials would not be easily passed onto the customer.

These are sectors such as real estate (steel and cement comprise close to half of construction

cost), print media (newsprint and Pulp), and metal (both ferrous and non-ferrous) processors.

While the global reduction in commodity prices would have actually benefitted their cost

structure and may have boosted demand, the more than commensurate rupee depreciation

has snatched away the advantage.

Impact on Sub-Investment Grade Issuers

Sub-investment grade companies are always more vulnerable to business cycles. The

directional impact on operating margins may be comparable to the sectors in which they belong.

Thus textile, pharmaceutical and technology companies are likely to make an opportunistic gain

due to their unhedged position. However they are more likely to face drastic price

renegotiations from their customers.

Companies in sectors such as chemical and metal processing are more likely to absorb

significant price rises (due to depreciation, which would affect their margins and significantly

stress their credit profile). The impact on traders of processed and unprocessed commodities

(metals, chemicals, papers, rubbers) is expected to be similarly stressed. In each of these

cases, the higher cost of inventory, along with a possible increase in the working capital cycle,

could stress their liquidity positions in the absence of suitable funding options.

What May Change the Projected Outcome

Most of the triggers -- both positive and negative -- in the short term (defined as the next 12

months) are factors external to India. Maintenance of the rupee at around INR55/USD1 to

IBR57/USD may depend on a relatively orderly resolution of the euro crisis ( to moderate flight

to dollar-asset), a smooth rebalancing of Chinas growth (to prevent further deterioration of

sentiment towards emerging markets) and avoiding geopolitical flare-ups (to prevent a spike in

oil prices). An adverse change in any of these factors may further depreciate the rupee. This,

would, however, feed into the deteriorating domestic balance of payments situation and

aggravate it further.

Given negative real interest rates and the pressure on the exchange range, extremely limited

scope remains for monetary policy to correct the situation. Similarly, fiscal tools have limited

scope without further affecting the sovereign credit profile, given the high domestic fiscal deficit.

Furthermore, should inadequate rainfall affect agricultural output, the government may be

expected to provide a stimulus to the sector as has been observed historically. This may

aggravate the fiscal deterioration.

Domestic policy-driven solutions to address structural issues (such as deregulation of various

subsidies) may improve investor sentiment. But these benefits take time and the immediate

impact is likely to be a higher inflation or further demand destruction.

Corporates


July 2012 19

Appendix 1: Relative Depreciation of the Rupee

Analysis of select parameters

Figure 28 Emerging Market Economies

Brazil

South Africa India Turkey

Sri Lanka Mexico Bangladesh Argentina Mongolia Russia Indonesia

South Korea Chile Thailand Malaysia Taiwan Vietnam Philippines China

Annual change in local currency rate against USD

-20% -17% -17% -15% -14% -14% -11% -9% -8% -7% -6% -6% -4% -3% -2% -1% 0% 2% 3%

9-month change in local currency rate against USD

-19% -12% -16% -1% -15% -10% -9% -6% -6% -5% -8% -6% -5% -4% -3% -2% -1% 0% 1%

6-month change in local currency rate against USD

-10% -1% -6% 0% -15% 0% -7% -4% -2% 1% -3% -2% 2% -1% 2% 2% 0% 2% 1%

3-month change in Local Currency rate against USD

-13% -5% -8% -2% -8% -6% 2% -2% 1% -1% -3% -2% -2% -1% -2% 1% 0% 0% 0%

Ranked as current account balance (CAB) % GDP 2012

a

13 15 14 17 16 10 7 18 3 8 6 12 9 1 2 11 4 5

2011 13 14 15 17 16 11 10 18 3 8 7 12 4 1 2 9 5 6 2010 13 15 14 17 12 11 9 18 4 10 7 8 6 1 2 16 5 3 Ranked change in CAB % GDP 2012-2011

b

10 14 5 1 2 7 8 3 17 12 11 15 18 4 13 16 6 9

2011-2010 4 11 12 16 17 8 10 18 2 6 5 15 9 3 7 1 13 14 Ranked as trade openness % GDP

c

18 12 13 15 9 10 17 4 11 16 6 7 3 2 5 1 8 14

Ranked as general government balance % GDP

d

12 16 18 5 17 10 9 14 1 4 3 2 7 13 11 15 8 6

a Ranked 1 for the country with highest CAB % of GDP and 18 for the country with lowest CAB % of GDP among the group of 18 countries.

b Ranked 1 for the country with highest improvement in CAB over 2011 with 18 for the worst/lowest improvement in CAB as a % of GDP.

c Ranked 1 for the country with highest trade openness % of GDP and 18 for the country with lowest trade openness % of GDP among the group of 18 countries.

d Ranked 1 for the country with highest general government balance % of GDP and 18 for the country with lowest among the group of 18 countries.

Source: Fitch

Corporates


July 2012 20

An analysis was performed on a group of 18 countries representing prominent emerging

nations or countries that compete with India on a specific export-oriented sector (such as

textiles from Bangladesh). The countries whose local currencies depreciated the most against

dollar as a group have the highest current account balance as a proportion of respective GDP.

However, there are exceptions. Examples include Mongolia (ranked 18th, worst CAB/GDP) and

Chile (ranked 12th), whose currencies have depreciated less than 10% against USD.

If the countries are ranked in terms of deterioration in CAB/GDP ratio from 2011 to 2012, then

the ranking suggests that some of the countries that have shown the worst deterioration are

also countries (Mongolia, Chile) that have depreciated the least against dollar. (In fact some

have appreciated, such as the Philippines and China.)

Among these parameters (particularly CAB and government fiscal deficit related), on an

aggregated basis, India along with Sri Lanka, Mongolia, South Africa and Turkey have the

worst deterioration. The direction of the movement of local currencies against the US dollar

may be driven by the fundamentals. However, this fully does not explain the huge depreciation

on the domestic currency value against the dollar.

For instance, Brazil (whose currency depreciated the most against the dollar), may be

comparable with Mexico, Mongolia, Vietnam Argentina and Chile on the basis of relative

deterioration of these select macroeconomic parameters. However, each of these five countries

has local currencies that have shown relatively much lower depreciation.

Impact of Global Risk Aversion

Some of the countries (Brazil, India, South Africa) whose currency have depreciated the most

in the last 12 months are tracked in Figure 29. These countries, along with China and Russia,

have been among the highest beneficiaries of capital inflows in emerging nations during the

period of 2004 to 2008. Risk aversion may have reversed a significant portion of such capital

flows. As a measure of rise aversion of financial markets, the respective sovereign credit

default swap (CDS) spreads are tracked in Figures 30-31.

Figure 29

0.80

0.85

0.90

0.95

1.00

1.05

1.10

Apr 11 May 11 Jun 11 Jul 11 Aug 11 Sep 11 Oct 11 Nov 11 Dec 11 Jan 12 Feb 12 Mar 12 Apr 12 May 12

Brazil Russia India China South Africa(Depreciation)

Yearly Fluctuation

Source: Fitch

(Months)

Figure 30

0.50

1.00

1.50

2.00

2.50

Apr 11 May 11 Jun 11 Jul 11 Aug 11 Sep 11 Oct 11 Nov 11 Dec 11 Jan 12 Feb 12 Mar 12 Apr 12 May 12

Brazil Russia India China SA(April 2011 = 1)

CDS Spreads - Indexed

Representative CDS of issuers linked to Soveriegn of IndiaSource: Fitch, Bloomberg

(Months)

a

a

Corporates


July 2012 21

Figure 31

0.50

1.00

1.50

2.00

2.50

3.00

3.50

4.00

4.50

Apr 11 May 11 Jun 11 Jul 11 Aug 11 Sep 11 Oct 11 Nov 11 Dec 11 Jan 12 Feb 12 Mar 12 Apr 12

USA Italy Spain Portugal(April 2011 = 1)

CDS Spreads - Indexed

Source: Fitch, Bloomberg

(Months)

The timing of depreciation of most of the countries (India, Brazil, Russia, South Africa) more-or-

less coincided with the increase in CDS spreads of these countries

A sharp deterioration was observed from July 2011 to October 2011. It was followed by a

period of stabilisation. The almost synchronised pattern of depreciation in these currencies

again started from February 2012. A comparable pattern was also observed in the CDS

spreads of these nations (particularly India, South Africa and Brazil).

The risk aversion in financial markets is also reflected by widening of spreads of CDS of a

sample of stressed European nations. Over the same periods the reduction in spread of US

CDS has reduced, reflecting the perceived flight to safety of global financial markets to US

assets.

Until risk aversion subsides, the rupee is unlikely to appreciate. On the contrary, the currency

may depreciate further if global risk aversion worsens. Any policy action that may be adopted

by the government and banking regulator is unlikely to improve the fundaments over the short

term. At best they may have a positive impact on sentiment of financial markets.

Corporates


July 2012 22

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fitch 03 rupee

Documents

subinvestment grade

currency depreciation

investmentgrade issuers

negative impact of foreign

positive impact

credit profiles of companies

rupee trade

exportoriented companies