Hero FinCorp Downgraded To 'BB/B' On Lower Risk-Adjusted Capitalization; Outlook Stable



Jun 27, 2022 04:35 pm

S&P Global Ratings lowered its long-term issuer credit rating on Hero FinCorp Ltd. to 'BB' from 'BB+' while affirming the 'B' short-term rating. The outlook on the long-term rating is stable.


We lowered the rating on Hero FinCorp because we expect the finance company's risk-adjusted capitalization over the next 12-18 months to stay lower than in the past, owing to business expansion.


We forecast Hero FinCorp's credit growth to be 25% for the next 12-18 months, with further upside as the company looks to enhance its customer franchise with a focus on increasing its retail exposure. The net interest margin may face some headwinds as policy and wholesale funding rates increase in India, in sync with the global trend. Hero Fincorp's operating costs should rise in tandem with balance sheet growth. The company is likely to pay moderate dividend payouts. We therefore expect Hero FinCorp's pre-diversification risk-adjusted capital (RAC) ratio to be at 8%-9% over the next 12-18 months, compared with over 11% in fiscal years ending March 31, 2020, and 2021.


Hero Fincorp's profitability is likely to improve over next 12-24 months as high credit costs in recent years taper gradually. The return on assets should average 1.5%-2% over the period compared with a loss in fiscal 2022. The company had two consecutive years (fiscal 2021 and 2022) of high credit costs due to disruptions created by waves of COVID infections in India. The collection efficiency has normalized in the past few quarters since the lockdowns have eased and the economy is recovering. Hero FinCorp also wrote off nonperforming loans and reduced "Stage-3" loans to 7.5% (as per the Reserve Bank of India's new asset classification norms) of total loans as of March 31, 2022, from 9.9% as of June 30, 2021.


Hero FinCorp's main shareholders and external investors have infused Indian rupee 20 billion worth of cumulative compulsorily convertible preference shares into the company. We have not included these instruments in our calculation of total adjusted capital because these do not meet some of our conditions for equity credit--e.g. mandatory conversion in two years.


The stable outlook reflects our view that Hero FinCorp is likely to remain strategically important to, and supported by, the stronger Hero MotoCorp group over the next 12-18 months.


We could lower the ratings if the deterioration in the company's asset quality is significantly more than our expectation.


Although unlikely, we would also downgrade Hero FinCorp if its linkages to the wider group diminish or if the group credit profile weakens substantially.


We would raise the ratings on Hero FinCorp if the company's RAC ratio is likely to improve and remain above 10%, while the wider group's credit profile stays stable. This could happen if we have reasonable certainty that the company will convert the cumulative compulsorily convertible preference shares into common equity in the short term.