Opportunity knocks: India Inc should warm up to corporate bond issuances

In contrast to the equity market, which boasts a diverse representation of sectors, the corporate bond market is dominated by financial sector entities. As much as 70% of the issuances in the past five years originated from the financial sector, which includes both listed and unlisted entities.

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Non-financial companies have been slow to embrace bonds for their funding needs. A Crisil Ratings study estimates the total outstanding borrowing of the top 500 companies at ₹83 trillion at the end of 2023-24, with ₹16 trillion denominated in foreign currencies and ₹67 trillion financed domestically. Of the domestic borrowings, only 43% was raised through the corporate bond market, with the remaining 57% coming from banks and other financial institutions.

Financial sector companies tap the corporate bond market for a substantial 49% of their domestic borrowings. This is explained by the nature of their business and regulatory requirements. In comparison, non-financial private companies and non-financial public sector undertakings (PSUs) have significantly lower reliance on the market, at 21% and 34%, respectively.

So, what constrains non-financial companies’ share of bond-market borrowing? Is it inadequate credit quality? The answer is a resounding ‘no.’ As many as 85-90% of India’s non-financial companies, comprising both public and private entities, have credit ratings of ‘AA’ or higher, indicating high to highest safety in terms of timely debt servicing. Their risk profiles align with the risk appetite of major bond market investors, including pension funds, insurance firms and asset management companies.

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The corporate bond market allows companies to diversify their funding sources, reducing dependence on bank loans. Over-reliance on any one source of funding impairs the financial flexibility of borrowers during times of a credit crunch or other market crises, leading to higher borrowing costs and stringent loan terms. Also, frequent and top-rated issuers in the bond market can enjoy more attractive interest rates as the volume of issuances increases.

The corporate bond market also facilitates faster transmission of interest rates. Issuers can time their borrowings by the state of the interest-rate cycle.

In the existing macroeconomic environment, lower interest rates are likely to be reflected in the corporate bond market sooner, as banks reprice their deposit liabilities before passing on lower rates to borrowers.

As for investors, the corporate bond market presents an opportunity to diversify their asset base towards top listed non-financial companies that boast of strong financial disclosures and credit-risk profiles.

Developing a vibrant corporate bond market will require a multi-pronged approach, with coordinated steps taken by regulators and targeted measures. On the supply side, revising ‘large borrower’ regulations across regulatory regimes can bring more companies under a mandate to borrow from the corporate bond market. Regulators can work together to expand the number of eligible large borrowers that need to tap the bond market for incremental borrowings by expanding the rating coverage and reducing the borrowing threshold.

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On the demand side, the financialization of savings is a positive shift for Indian markets. There is a need to leverage this opportunity to channel more investments directly and indirectly to the bond market.

Relaxing the investment regulations of insurers and pension funds can help channel more investments to the entire spectrum of AA-category issuances across sectors. Also, aligning the tax regulations of debt mutual funds with other asset classes can boost the participation of retail investors in the corporate bond market.

Given India’s favourable macro conditions, this is an opportune time to unleash the potential of the corporate bond market with the right policy measures.

A Crisil Ratings study indicates that if the top non-financial companies increase their corporate bond borrowings to 50% of their total domestic borrowings, it could add over ₹4 trillion to the corporate bond market, based on current borrowing levels. A two-thirds share can add up to ₹7 trillion.

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While this may look optimistic, the US bond market helps put it in context, where the top 10 non-financial companies fund their domestic borrowings almost entirely from the capital market. In contrast, the top 10 non-financial companies in India borrow only about 27% of their domestic debt from the corporate bond market. Thus, an increase in exposure of non-financial private companies can significantly expand the size and depth of India’s corporate bond market.

Crucially, it will also free up bank funds for fresh projects and increase exposure to credit-starved mid- and small-sized companies and under-penetrated segments. A large and diverse credit market, characterized by a balanced mix of multiple sources of borrowing, will also help spread financial risk wider and ensure efficient allocation of capital for robust economic growth.

The author is managing director, Crisil Ratings Limited.