A holding company borrows Rs 1,000 crore to fund equity in its operating subsidiaries and relies on their dividends to pay interest. Work out double leverage and dividend cover, and judge the risk to its lenders.

Double leverage is 130% and dividends cover holding company interest 1.56 times after costs, which is thin for money the holding company does not control. Rs 600 crore of the equity it has put into its subsidiaries was borrowed. If the cement lenders block that dividend, cover falls to 1.00x; if the finance regulator also stops one, to 0.67x. Holding company lenders also rank behind every subsidiary creditor, so this debt deserves a lower rating than the group.

Divide what the holding company has invested in its subsidiaries by its own equity: 2,600 over 2,000 is 130%. Anything above 100% means some of the equity the subsidiaries show on their balance sheets was really borrowed by the parent, so the same rupee is counted as equity below and debt above. That is double leverageWhen a holding company borrows to invest equity in its subsidiaries, so debt at the parent sits on top of debt at the subsidiaries.. A parent who takes a personal loan to give a child the down payment on a flat has done the same: the child's bank sees equity, but the family owes it twice.

Interest is 9% of Rs 1,000 crore, Rs 90 crore. Dividends of Rs 150 crore less Rs 10 crore of running costs leave Rs 140 crore, so cover is 1.56x. That looks adequate until you ask who decides the dividends: each subsidiary's board, its lenders and, for the finance company, its regulator, none of whom answer to the holding company's lenders. The cement subsidiary's loan blocks dividends on a covenant breach, which takes cover to 1.00x. A regulator restricting the finance subsidiary's payout too would leave dividends of Rs 70 crore against interest of Rs 90 crore.

Behind everyone in the subsidiaries. The holding company owns shares, so its lenders are paid only from what is left after each subsidiary's own creditors are paid in full. That is structural subordination, and it means that a rating agency would usually rate the holding company debt a notch or more below the group's operating companies. Its real sources of repayment are three: dividends it does not control, selling a stake, or refinancing, which depends on markets being open.

Size the debt on the stressed dividends. Keeping cover at 1.5x even with the cement dividend blocked allows holding company interest of Rs 60 crore, about Rs 667 crore of debt at 9%, a third less than today. Then ask for a cap on double leverage, a debt service reserve of a year's interest held in cash, and a pledge of listed subsidiary shares with a margin that tops up if their value falls. The limitation: the stresses above assume subsidiaries stop paying entirely, while in practice a board may cut rather than stop, so the true picture sits between the bars.