In a column that appeared on Firspost last week, we had shared a chart which showed that profits of Indian corporates as a proportion of the gross domestic product(GDP), have been falling. As can be seen from the accompanying chart, corporate profits as a percentage of GDP have fallen from 7.1 percent of the GDP in 2007-2008 to around 4.3 percent of the GDP in 2014-2015. That is indeed a huge fall.
Why has this happened? The answer perhaps lies in the following table. The table has been made using data from 433 companies which are a part of the BSE-500 stock market index. It does not include banks and financial services companies. The net sales of these 433 companies accounted for 83.3 percent of the total net sales of close to 3,400 listed manufacturing and services companies excluding banks and financial services companies. Hence, the sample is a fair representation of the Indian corporate space.
Take a look at the total debt column. As of the end of 31 March 2005, the total debt of the Indian corporates had stood at around Rs 3,49,296 crore. By 31 March 2014, this debt had shot up by 8.1 times to Rs 28,43,155 crore. In comparison the total amount of equity or the money that the owners of these companies put into their respective businesses, had gone up by just five times to Rs 25,83,606 crore.
This meant that the debt of the Indian firms went up at a much faster pace than their equity, and in the process managed to push up the debt to equity ratio from 0.68 to 1.10.
Further, the excessive borrowing did not translate into sales. The sales during the period March 2005 and March 2014, went up by around 5.1 times. The profit on the other hand went up just 3.2 times.
Hence, to summarize, an 8.1 times increase in debt, led to a 5.1 times increase in sales and 3.2 times in net profit. What this clearly tells us is that as Indian corporates took on more and more debt, the new debt wasn’t as productive as the older debt that had been taken on.
And this finally started to reflect in the net profit margin of Indian corporates. As can be seen from the table, the net profit margin (net profit divided by net sales) fell from 10.51 percent in 2004-2005 to 6.55 percent in 2013-2014. This is primarily because a greater amount of profit over the years was used to repay the debt as well as pay interest on it and in the process pulled down net profit margins of Indian companies.
How do things look in 2014-2015(the financial year ending 31 March 2015)? For the last financial year we have results of around 384 companies and not the entire sample as was the case in earlier years.
In 2014-2015, the net profit margin is down further to 5.95 percent. Though the debt to equity ratio seems to have improved to 0.89. Whether this trend sustains once all the results of the sample come in, remains to be seen.
The conclusion that can be drawn from this data is that Indian companies loaded up on debt between 2004 and 2011, when times were good. During this period the net profit margin varied between 9-11 percent, except in 2008-2009 when it was 7.44 percent. Nevertheless, 2008-2009 was the year when the current financial crisis started and could be discounted as a bad year.
All the debt accumulated between 2004 and 2011 is now coming back to haunt India Inc. And we haven’t seen the last of this.
(Vivek Kaul is the author of the Easy Money trilogy. He tweets @kaul_vivek)
Data support from Kishor Kadam.
The column originally appeared on Firstpost on June 16, 2015