In its first comments after it received approval from the National Company Law Tribunal (NCLT) to take control of debt-ridden Infrastructure Leasing and Financial Services (IL&FS) and replace the existing management with a new one, the finance ministry said the action was necessitated for restoring confidence and to save the company from financial collapse after serious corporate related deficiencies were discovered in the holding company and its subsidiaries.
The ministry said an investigation by the Serious Fraud Investigation Office (SFIO) has been ordered into the affairs of IL&FS and its subsidiaries after serious complaints on some of the companies. The fact that IL&FS, which has 169 group companies, as in 2017-2018, including subsidiaries, joint venture companies and associate entities, continued to pay dividends and huge managerial pay-outs regardless of looming liquidity crisis shows that the management had lost total credibility, it said. “The high debt stress was clearly visible in the company and its main subsidiaries for the last so many years, but was camouflaged by misrepresentation of facts.”
The finance ministry blamed the previous government for the crisis that has racked the financing and construction behemoth, saying deterioration in the financial performance and substantial leveraging of the IL&FS Group started many years ago on account of stalled projects in infrastructure sector largely owing to wrong decisions and policy paralysis before 2014.
NCLT allows government to take control of IL&FS; Uday Kotak, ICICI Bank’s GC Chaturvedi named on new board
On the NCLT action, the ministry said there appears to be significant liquidity gap in the company as estimated liabilities might not have any corresponding revenues/capital flows presently. “The government after analysing the emerging situation of IL&FS came to the conclusion that the governance and management change is very necessary for saving the group from financial collapse,” said a statement by the ministry on Monday.
Continuance of the present board had become prejudicial to the interests of the company and its members and this management was affecting public interest because of its adverse impact on financial stability and making capital markets so adversely affected, it added.
Earlier on Monday, the
NCLT approved the government application to remove the board of the company and replace it with six new directors led by veteran banker Uday Kotak. The Report That Prompted The Action
The decision to supersede the existing board was taken after a report received from the regional director, Mumbai under the corporate affairs ministry, which clearly brought out serious corporate related deficiencies in the IL&FS holding company and its subsidiaries, according to the finance ministry. The government approached NCLT under section 241 read with 242 of the Companies Act, 2013.
The ministry said the government stands fully committed to ensure that needed liquidity is arranged for ILFS, incorporated in 1987, from the financial system so that no more defaults take place and the infrastructure projects are implemented smoothly.
“The restoration of confidence of the money, debt and capital markets, the banks and financial institutions in the credibility and financial solvency of the IL&FS Group is of utmost importance for the financial stability of capital and financial markets. There is an emergent need to immediately stop further financial defaults and also take measures to resolve defaulted dues to the claimants,” said the statement.
This would require a combination of measures of asset sales, restructuring of some liabilities and a fresh infusion of funds by the investors and lenders, said the ministry, adding that the confidence of the financial market in the credibility of the IL&FS management and the company needs to be restored.
How IL&FS Became A Mess
On IL&FS’ financial duress, the ministry said the consolidated financial statement of IL&FS holding company and its subsidiaries, associates and joint ventures projected a picture through a highly exaggerated depiction of non-current assets in the form of intangible assets amounting to over Rs 20,000 crores. Besides, bulk of revenue was in the form of receivables, around 50 percent, which was locked up in litigation and arbitration. Added to this, there has been a sharp increase in bank deposits held in the lien, which rose by Rs 1,681.59 crore in FY 2017-18.
Overall, the company has negative cash flows from operations. Further, the net outflow was Rs 7,020 crore in 2017-18 and from August 2018 the company has been making repeated defaults.
The deep-rooted mismatch in the debt-equity ratio was because of excessive leveraging, which has put a question mark in its ability to continue as a going concern if allowed to continue in the hands of the present management, said the ministry. “The high debt stress was clearly visible in the company and its main subsidiaries for the last so many years, but was camouflaged by misrepresentation of facts.”
The Trigger For The Crisis
A series of defaults by IL&FS Group companies in August and September, 2018 on term-deposits, short-term deposits, inter-corporate deposits, commercial paper and non-convertible debentures and the rating downgrades in some and default on some other financial instruments. This triggered a “massive effect in the financial markets causing redemption pressure on the mutual funds, which held such financial instruments and has also adversely impacted the sentiments on the stock markets, money markets and debt markets”, according to the finance ministry.
The redemption pressure on mutual funds has created a large systemic risk leading to quality papers being sold at steep discounts to meet the redemption demand. The debt market shocks got transferred to the equity market sparking sell off particularly in NBFC stocks and sectors linked with NBFC financing.
The Financial Picture
As per its latest balance sheet, IL&FS has infrastructure and financial assets exceeding Rs 1,15,000 crore but is presently facing tremendous debt pressure and struggling to service around Rs 91000 crore in debt. This is the outcome of its mismanaged borrowings in the past, according to the ministry.
The financial mismanagement of the IL&FS is apparent from its rapid debt built up and misrepresentation of the true state of financial fragility, which is being reflected in unprecedented rating downgrade from highly rated to a default category, the ministry said, adding that considering the capital base of the Group, the leverage is very high.
The IL&FS Group is involved in many infrastructure projects including through equity and debt financing. Any impairment in its ability to finance and support the infrastructure projects would be quite damaging to the overall infrastructure sector, financial markets and the economy, considering its systemically important nature, the ministry noted.
Genesis of The Crisis
The finance ministry statement said IL&FS Group, especially its subsidiary companies, IL&FS Engineering and Construction Company Limited (IL&FS Engineering) and IL&FS Transportation Networks Ltd got into major problems beginning 2012. This led to massive delays in execution of projects and a number of projects had become stalled infrastructure projects even before 2014. This affected their financial performance and significantly increased the leveraging as delayed projects were kept afloat by more and more debt financing.IL&FS Engineering had a series of losses beginning 2011-12 and minimal profit started after 2015-16. IL&FS Transportation Network Ltd. witnessed a significant erosion of profit starting from 2012-13 and the net debt also increased more than two times from Rs 13939 crore to Rs 29961 crore in 2017-18. Deterioration in the financial performance and substantial leveraging of the IL&FS Group started many years ago on account of stalled projects in the infrastructure sector largely owing to wrong decisions and policy paralysis before 2014.