India Inc’s credit quality continues to shine in FY23: Slowdown concerns could impact IT, textile sectors, says ICRA

• India Inc’s credit quality has further improved in FY23, sustaining the momentum of FY22 despite multiple headwinds.
  
• In FY23, ICRA’s portfolio of entities saw nearly 3 ratings upgrades for every downgrade, similar to that of FY22.
  
• The agency added that economic slowdown could derail the momentum of sectors like IT, textiles, and gems & jewellery.
  

Corporate India’s credit quality has continued to rebound in FY23, sustaining the previous year’s momentum, despite multiple headwinds like elevated inflation and a rise in interest rates. According to credit rating agency ICRA, there were nearly three ratings upgrades in FY23 for every downgrade. Underlining this improvement in credit quality is the fact that in ICRA’s portfolio, defaults fell by nearly 50% to 22 in FY23, compared to 42 in FY22 and 44 in FY21.

This improvement is also being seen in the asset quality of banks and non-banking financial companies (NBFCs). Indian banks reported stellar December-quarter results driven by a continued improvement in asset quality, apart from healthy credit and margin growth.

Overall, in ICRA’s portfolio, 441 entities saw an upgrade while 156 entities were downgraded. “The proportion of rating downgrades remained low at 5% in FY2023 as the recovery momentum continued to hold steady overall, even as supply chain concerns, cost inflation, interest rate hardening, and currency depreciation posed challenges,” said the ICRA report.

Real estate, hospitality and textile sectors top list of upgrades

Real estate, hospitality and textile sectors have driven net ratings upgrades. In fact, the real estate sector saw a 26% upgrade rate and only a 1% downgrade rate in FY23, taking its credit ratio to 30.5 times.

Contributing to the high upgrade rate in the real estate sector were factors like an increase in leasing activity and occupancy levels, the ratings agency noted. With FY23 also being the first full disruption-free year after FY20 and FY21, which were impacted by Covid-19 lockdowns, the hospitality sector staged a smart rebound in FY23.

“The overall recovery in the sector has been better than expected, aided by recovery in leisure demand, pent-up demand from meetings, incentives, conference and exhibitions (including weddings), and a gradual pick-up in business travel,” the report added.

Global macroeconomic headwinds could impact IT, textile sectors

Looking forward, however, export-oriented sectors like IT, textile and gems & jewellery are staring at headwinds due to an expected slowdown in the global economy – more so in the developed world than the developing world.

The International Monetary Fund has projected the world economy to grow at a slower rate of 2.9% in 2023, compared to 3.4% in 2022. Developed economies are projected to grow at a much-slower 1.2% in 2023, significantly lower than 2.7% in 2022.

“Export-oriented sectors like textiles and gems & jewellery will likely face demand headwinds in the near term, a phenomenon already in play since H2 FY2023,” said the ICRA report. It added that the impact on the IT sector will be determined by the trajectory of discretionary IT spends, influenced by factors like a global economic slowdown and the banking sector crisis in the US and Europe.

While Indian banks currently have the best metrics seen in a decade, ICRA notes that more interest rate hikes could start having an impact on asset quality, thereby derailing the momentum of the industry.

“The downside risk to our estimates stems from the possibility of an unexpected rise in bad loans when the full impact of the rise in interest rates in FY2023 starts reflecting in the profit and loss account of borrowers in FY2024,” the ratings agency noted, adding that a further rise in interest rates will test the ‘resilience’ of asset quality improvements seen so far.

The ratings agency notes that entities engaged in highly-leveraged sectors like roadways, with pricing power limited due to restrictions in hiking toll prices, could experience a negative impact if rates are hiked by another 100 basis points. One basis point is equal to 0.01%.

However, at this juncture, the analyst consensus is for a 25 bps hike, and in the best-case scenario, analysts at SBI Research suggest there could be no rate hike and a pause.

On the whole, ICRA maintained a positive outlook on banks, NBFCs, hospitality and oil & gas sectors, while it has a negative outlook on the media (print) and power distribution sectors.

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