Moody’s Downgrades Vedanta Bonds

Assessing the Fallout Across Vedanta Group and Connected Industries from the Latest Ratings Action on Its Bonds

Source and Citation: Originally reported in PTI via ETMarkets.com, January 2024, summarized and analyzed here.

Table of Contents

Analysis for a Layman

Global ratings agency Moody’s has downgraded bonds issued by Vedanta Resources, the parent entity of the diversified Vedanta Group conglomerate, to Ca from Caa3. The corporate family rating was also lowered to Caa3 from Caa2.

These moves reflect Moody’s view that Vedanta’s recently concluded debt restructuring agreement with bondholders was a distressed exchange made to avoid default. It believes creditors incurred economic losses relative to original terms.

The agency argues that despite near term liquidity improvement from deferred redemptions, Vedanta still faces high refinancing risks in 2025-2026 amid large negative free cash flows. Further distressed exchanges may be required.

So while bond maturity profiles have been pushed out temporarily, the underlying financial leverage and cash flow concerns dragging Vedanta’s credit profile remain unresolved per Moody’s. Holding company liquidity is seen as inadequate to meet liabilities without asset sales, capital raise, or further renegotiation.

The downgrade verdict conveys regulator disapproval of the bond recast as only temporary relief for what Moody’s views as an over-leveraged balance sheet amid weak commodity markets. Without material deleveraging, default risks stay elevated it argues.

Impact on Retail Investors

For retail equity investors, the latest Vedanta downgrade underscores risks from the parent holding company’s heavy debt load despite decent operating metrics at the subsidiary businesses like Hindustan Zinc, Balco, Cairn India, etc.

However, short term stock price reaction may remain muted assuming bullish sentiment on underlying commodity markets continues overshadowing the financial engineering worries highlighted by Moody’s.

But retail investors would be wise to monitor the springing covenant requirements by 2025 that could trigger accelerated bond redemptions if refinancing falls short. Equity value often shows high correlation with debt refinancing risks during commodity downcycles.

While dividend payouts from operating subsidiaries seem safe in 2023-24, longer term shareholder returns do depend on successful deleveraging of Vedanta Resources to provide growth capital for the Indian units through metals and energy upcycles and downswings.

So retail equity investors cannot ignore the strains on credit metrics that rating agencies continue calling out despite near term liquidity respite from deferred bond maturities. Balance sheet fixes remain pending.

Impact on Industries

The downgrade verdict on Vedanta bonds sends negative signals across metals and mining sectors globally regarding the predominantly elevated leverage levels maintained by players amid commodity cycle volatility.

Upstream materials companies are seen as higher credit risks relative to downstream manufacturing given the swings in exploration economics and input costs tied to unpredictable cycles. Many carry debt from expansion drives during past commodity booms.

For India’s wider natural resources sector spanning minerals, materials, and oil/gas, Vedanta’s downgrade is a reminder of concentrated balance sheet risks borne by parent holding companies that financial engineering maneuvers cannot fully nullify over long periods of stress.

Domestically, correlations get drawn to Adani Group’s spree of acquisitions across ports, airports, cement, and power verticals – all largely debt-funded though partly compensated by annuity or regulated income streams. But commodity price sensitivities remain.

Whether offshore bond investors penalize perceived event risks among India metals names needs monitoring. But markets often take cues from rating agencies on underlying cash flow uncertainties during cycles beyond just strong reported earnings that can reverse swiftly as global growth outlooks shift.

Long Term Benefits & Negatives

Over longer-term horizons, Vedanta’s credit rating pressures highlighted by Moody’s raise structural questions regarding the sustainability of the operating subsidiary dividend payout model to service parent company debts amid market volatility.

This puts shareholders at odds with bond creditors eying the same cash flow streams during commodity cycles. Emerging markets materials & energy groups often walk this tightrope leveraging subsidiaries to fund expansions – efficient when markets boom, perilous in corrections.

Vedanta now has some added years of maturity profile leeway from near term maturities deferred via restructuring. But the core deleveraging requirement continues, and 2025 covenants could trigger accelerated redemptions if unaddressed.

Asset sales remain likely – minority stakes in units like Hindustan Zinc, Vedanta Zinc International, etc., can help pare debt in the absence of outright privatization. But may bring lower valuations in the current environment. Also risks ceding controlling stakes in crown jewels.

Over long periods though, cyclical players like Vedanta need flexible, right-sized balance sheets allowing agility to pare debt in upturns and acquire during downturns. This recent episode highlights the razor’s edge parent entities walk attempting to balance growth options with leverage during volatility.

Short Term Benefits & Negatives

In the immediate 1-2 year timeframe, Vedanta Resources retains relief from looming liquidity pressures after securing maturity extensions on bonds. With coupons also lowered, near term cash flow strains ease.

This provides crucial breathing room to navigate current metals/energy cycle volatility and progress strategic optionality around subsidiary dividends, asset sales, etc., as platforms to sustain deleveraging and achieve credit metric upgrades restoring access to bond markets.

However, short term stock gains built on optimism around commodity sector upswings could reverse swiftly if sentiment sours or growth concerns resurface. Equities often react severely to debt refinancing risks in cyclical sectors – temporary liquidity backstops fail to alleviate these worries.

And the 2025 covenants remain a near term sword on further refinancing critically needed to stave off the bulky 2026 maturities that could overwhelm liquidity if still pending by then absent asset sales. This curtails the interim period available for balance sheet fixes.

So while positives emerge from deferred redemptions, Vedanta isn’t fully absolved of event risks in 2024-25 that could force further drastic actions denting minority shareholder interests if deleveraging traction stalls – raising the chances of another distressed bond exchange episode down the line.

Company Impact Analysis: Moody’s Downgrades Vedanta Bonds

Indian Companies:

Potential Gainers:

Competitive Metals and Mining Companies: Companies like Hindustan Zinc (HZL) and National Aluminium Company (NALCO) could benefit from potential market share gains if Vedanta faces production or supply disruptions due to financial constraints. However, this depends on their own capacity and market conditions.
Financial Institutions with Loan Exposure: Banks like SBI and Axis Bank with limited loan exposure to Vedanta might avoid significant losses compared to those heavily invested. This could improve their relative financial position.

Potential Losers:

Lenders and Bondholders: Banks like ICICI Bank and Axis Bank with significant loans or invested in Vedanta bonds could face potential losses if the company defaults or undergoes further distressed debt restructuring. This could impact their profitability and market sentiment.
Suppliers and Contractors: Companies like Larsen & Toubro (L&T) and Bharat Heavy Electricals Ltd. (BHEL) providing services or equipment to Vedanta projects could face payment delays or project cancellations due to the company’s financial struggles. This could impact their revenue and order book.

Global Companies: