Moody's Investors Service on Monday said it has downgraded IIFL Finance's rating over rising asset quality issues.
The agency has downgraded IIFL Finance’s corporate family rating (CFR) to B2 from B1, senior secured debt rating to B2 from B1, and senior secured medium-term note (MTN) programme rating to (P)B2 from (P)B1.
The downgrade of IIFL Finance's ratings reflects Moody's expectation that the company's asset quality and profitability will deteriorate as loan delinquencies and defaults increase, Moody’s said.
“This weakening will be driven by declining earnings and cash flow at its customers due to the deep coronavirus-led economic contraction,” the agency said.
Explaining the rationale, Moody’s said loans to small and medium enterprises (SMEs), real estate developers and micro-finance companies - segments that represent about 40 per cent of its assets under management - are at the greatest risk of a deterioration in asset quality, given the disruption to their business activities and their limited balance sheet liquidity.
At the end of June 2020, about 50 per cent of these loans were subject to repayment moratoriums, compared to about 30 per cent of IIFL Finance's total loan book, Moody's said.
In line with its industry peers, Moody's expects IIFL Finance will restructure loans of borrowers whose businesses and earnings have been affected by the coronavirus pandemic.
The longer and deeper the hit to India's economic activity, the greater the negative financial impact would be on borrowers, leading to an increase in non-performing loans (NPLs), Moody’s said.
However, the increase will be gradual as the loan restructuring will prevent an immediate sharp increase in NPLs. IIFL Finance's profitability will also deteriorate as credit costs increase in line with the deterioration in asset quality, the agency said.
While IIFL Finance has increased loan loss provisions against potential asset quality deterioration, its provisioning coverage will deteriorate as NPLs increase, Moody’s said, adding, IIFL Finance's return on assets has already deteriorated, declining to about 1 per cent in June 2020 (annualized) from an average of 1.8 per cent in the past three years, excluding the one-time mark-to-market impact on foreign exchange borrowings.
Further, IIFL Finance's capital remains stable as the company has slowed loan growth in response to the contraction in the economic activity and to conserve liquidity, the agency said.
IIFL Finance has not yet raised equity, unlike some of its peer non-banking financial companies, to shore up its buffers given the challenging operating conditions. While IIFL Finance is backed by strong shareholders, its access to equity capital remains to be tested, Moody’s said.