Fitch Ratings expects rising domestic interest rates to hurt Sri Lankan corporates over the next 12 months.
Their borrowing costs have increased more than 200bp in the 12 months to March 2017.
Fitch does not expect the pressure on interest rates to ease in the near term.
Annual inflation as measured by the Colombo consumer price index rose to 8.4% in April 2017 from 4.3% a year ago. Corporates with high short-term working capital needs such as retail and manufacturing companies are hurt the most by the recent rate increases.
In Fitch’s view, the two large consumer-durable retailers, Singer (Sri Lanka) PLC (A-(lka)/Stable) and Abans PLC (BBB+(lka)/Stable), are the most affected of the entities we rate as most of their borrowings consist of short-term working capital financing.
Fitch believes Singer has more headroom in its current rating to withstand these challenges compared to Abans.
Kotagala Plantations PLC (CC(lka)) may also face further liquidity pressure . Fitch believes Hemas Holdings PLC (AA-(lka)/Stable) and Sunshine Holdings PLC (A(lka)) to be the least affected. The interest coverage (EBITDA/gross interest expense) of corporates that Fitch rates deteriorated to 6.9x on average in the 12 months ended March 2017. Debt increased mostly on account of investments in new capacity in sectors such as retail and manufacturing, which may take longer to translate into meaningful cash flows.
Fitch estimates interest coverage may fall to 5.2x by the end of the current financial year if interest rates were to rise by 100bp. If interest rates were to rise by 200bp, coverage would weaken further to 4.8x.
These estimates are based on our expectations that Fitch-rated corporates’ EBITDA will grow by around 1% on average over this period, and debt will increase by 6%.
We have assumed that 100% of corporates’ short-term debt and 40% of long-term debt will be re-priced at higher rates immediately. As of end-March 2017, almost 50% of the outstanding borrowings of Fitch-rated corporates consisted of short-term borrowings primarily funding working capital, exposing the companies to modest interest-rate risk at the point of refinancing.
Only 12% of the outstanding borrowings of Fitch-rated corporates consisted of debenture financing, which is predominantly on fixed rates.