Tuesday, March 31, 2009

Indian stocks: substantial currency losses?

Until sometime last year, betting on Indian rupee appreciation seemed like a sure shot one way bet. The BRICs 2050 hoopla certainly helped ignite the animal spirits. Corporations who should have been hedging currency risks actually started speculating instead, trying to “benefit” from their currency exposure.(See this paper and presentation which further explore the existence of one way currency bets amongst private sector companies in India)

Well, came across an article which documents the extent of this activity. It discusses the possibility that the Indian companies could face currency translation losses of approximately 20% of their profits in the current quarter. This number might actually be on the low side as all companies do not disclose their foreign currency borrowings separately. (Note that Indian companies only have to disclose their balance sheet once a year, and Indian fiscal year runs from April - March). I suspect a few sectors/companies could face the brunt of these losses. From the Financial Express:

The rupee has depreciated by about 21 per cent over the past one year. As a result, the borrowing cost is higher by nearly Rs 45,000crore. From Rs 2.1 lakh crore to Rs 2.54 lakh crore.The aggregate profits of these 849 companies in 2007-08 was Rs 2.4 lakh crore. This is estimated to have fallen to Rs 2.2 lakh crore by 2008-09. Thus, the Rs 45,000 crore hit would eat away about 20 per cent of the profits before tax of these companies.

There are two caveats. First, the estimate made above could be slightly lower than the actual borrowings of companies because all companies do not disclose their foreign currency borrowings separately. Secondly, some individual companies, possibly some very large companies, could be hit significantly more severely than the average 20 per cent estimated above.

If this wasn’t bad enough, the Confederation of Indian Industries (CII) has requested the “changing of accounting rules” so that companies can avoid taking a charge for this loss in the upcoming quarter (I wonder why they weren’t requesting this when these same companies were booking profits because of currency effects 2-3 years earlier?). From the same article:

The Confederation of Indian Industry (CII) has proposed that the losses (or gains) arising from changes in the value of foreign currency assets and liabilities because of exchange rate fluctuations not be charged to the profit and loss account of the period of this change. The fear is that because the rupee has depreciated substantially in recent months, companies may be forced to report large losses in the coming quarter ended March 2009, and also in the annual financial statements that end in March 2009.

India is already facing extra scrutiny thanks to Satyam, and this proposal for a hasty and haphazard accounting change could worsen investor confidence in the Indian markets.

Stay tuned.