When
the world marked the 10th anniversary of the collapse of Lehman Brothers which
triggered the global financial crisis in September 2008, India's leading
infrastructure finance company IL&FS defaulted on payments to lenders
triggering panic in the markets. Below is all about IL&FS and what went
wrong with it:
WHAT
IS IL&FS?
IL&FS
Ltd, or Infrastructure Leasing & Finance Services, is a core investment
company and serves as the holding company of the IL&FS Group, with most
business operations domiciled in separate companies which form an ecosystem of
expertise across infrastructure, finance and social and environmental services.
A brain child of the late MJ Pherwani, IL&FS was founded in 1987 with
equity from Central Bank of India, Unit Trust of India and Housing Development
Finance Co to fund infrastructure projects when peers IDBI and ICICI were
focused more on corporate projects.
WHO
OWNS IL&FS?
State-owned
Life Insurance Corporation of India (LIC), which owns a 25.34% stake in
IL&FS, is its largest shareholder, followed by Japan’s Orix Corporation
(23.54%). Other key shareholders are the Abu Dhabi Investment Authority
(12.56%), Housing Development Finance Corporation (9.02%), Central Bank of
India (7.67%), and State Bank of India (6.42%).
WHAT
AILS THIS COMPANY
As
infrastructure became the central theme in the past two decades, IL&FS used
its first mover advantage to lap up projects. In the process, it has built up a
debt-to-equity ratio of 18.7. The group with at least 24 direct subsidiaries,
135 indirect subsidiaries, six joint ventures and four associate companies is
sitting on a debt of about Rs 91,000 crore. Of this, nearly Rs 60,000 crore of
debt is at project level, including road, power and water projects. A major
reason behind troubles of IL&FS is complications in land acquisition. The
2013 land acquisition law made many of its projects unviable. Cost escalation
also led to many incomplete projects. Lack of timely action exacerbated the
problems.
WHAT
HAS HIT IL&FS?
A
credit crunch facing major Indian infrastructure financing and building
company, Infrastructure Financing and Leasing Services Ltd (IL&FS), has
roiled the nation's financial markets in recent days, triggering concerns about
risk in the rest of the country's shadow banking sector. As Prime Minister in
2014-15 announced a major program to build highways, roads, tunnels, affordable
housing and renewable power generation across the country, IL&FS's
ambitions grew and it was one of the biggest beneficiaries of the drive. It has
won several of these projects, either through direct bidding or joint ventures,
but has taken on heavy debt as a result. Until early August, it had an AAA
rating from credit rating agencies largely thanks to its place at the center of
government infrastructure plans and its robust list of top shareholders.
WHAT
WENT WRONG?
In
summary - the company piled up too much debt to be paid back in the short-term
while revenues from its assets are skewed towards the longer term. IL&FS
first shocked markets when it postponed a $350 million bonds issuance in March
due to demand for a higher yield from investors. Under increasing pressure from
the Reserve Bank of India to identify and deal with bad loans quickly, the
country's banks were wary of extending and rolling over loans if the credit
risks were high. This made it more difficult for IL&FS to refinance its
debt as it came due. IL&FS' net debt to earnings before interest, tax,
depreciation and amortization, a measure of a company's ability to pay debt through
its operating income, was hovering around a ratio of 11 at the end of March
2018, based on data from the company's latest annual report. Analysts consider
anything above 5 a red flag. Then came a string of rating downgrades, beginning
in June. In more troubles for the crippled IL&FS group, India Ratings on
Tuesday downgraded the long-term issuer rating of a group company, IL&FS
Environmental Infrastructure and Services (IEISL), and placed its ratings under
watch. The agency has also downgraded the ratings of various debt instruments
to ‘BB’.Rival rating agency Icra had last month junked the ratings of most of
the group companies. The downgrade by India Ratings reflects a similar rating
action on its parent, IL&FS, following the default on repayment of commercial
papers. The board of IL&FS then rushed to approve a rights issue of 45
billion rupees to be completed by October. The board also sought to
recapitalize IL&FS Financial Services, ITNL and three smaller subsidiaries.
The Company said in its annual report that because many of company's claims and
other payments involved government contracts it might take two-three years to
get these resolved. By the middle of September, IL&FS and IL&FS
Financial Services had a combined 270 billion rupees of debt rated as junk by
CARE Ratings and a further six group companies had suffered downgrades with a
negative outlook on another 120 billion rupees of borrowings.
SERIOUS
LAPSES ON PART OF GOVERNMENT
This
brings us to the IL&FS episode where the mayhem began in the first place. A
look at the financials of ILFS Financial Services (IFIN) — whose commercial
paper was swiftly downgraded from A1+ (having a very strong degree of safety
and lowest risk) to A4 (very high credit risk to default) and then to default
status in a matter of two weeks — suggests that there were enough warning bells
in the company’s books for lenders or ratings agencies. As per the FY18
financial results of the company, its gearing (debt/equity) was a high 8 times
and the rise in provisioning and interest costs was already adding pressure on
the company’s profitability. The company’s exposure to infrastructure sector,
only increases the risk. While rating agencies have been taking note of the
company’s high concentration in loan book, deterioration in asset quality and
subdued profitability, they assigned top notch rating to the company’s CPs,
drawing comfort from the strong parentage of the IL&FS group. But the swift
downgrading of the parent company’s ratings has once again highlighted that
placing undue importance on promoter backing and parentage can cost dearly—
ratings of instruments issued by many PSU banks suffer from a similar myopic
view. In ICRA’s September 3 release, the rating agency had taken stock of a
delay by IFIN in meeting its commercial paper (CP) repayments due on August 28,
2018. But since the delay in CP redemption was on account of technical issues
and the facilities were repaid through surplus available with IFIN along with
funding support from the group, the rating was left unchanged.
In
its September 17 release when it finally downgraded the company’s CPs to D
rating, citing recent irregularities in debt servicing, it also interestingly
mentioned the change in definition of ‘companies in the same group’.It has
stated that as per IFIN’s board policy, each business vertical of IL&FS and
its respective SPVs were considered as an individual group; thus the various
verticals were not treated as companies of the same group.
LACK
OF REGULATOR’S OR GOVERNMENT’S ROLE
The
Reserve Bank of India (RBI) is reportedly conducting a forensic audit into
IL&FS’s books. The banking regulator, along with market watchdog Securities
and Exchange Board of India (SEBI), released statements on Sept. 23 to allay
investor concerns.The company, however, has been directed by the RBI now to
follow guidelines set out in the Companies Act, for determining ‘companies in
the same group’, wherein entire loans to IL&FS group companies would be
classified as exposures to companies in the same group, impacting capital adequacy
calculations. Such reporting lapses coming to fore only after a crisis unfolds
once again raises questions over the murky role of auditors in the entire
episode, much like in the PNB scam. For the IL&FS group as a whole that has
a consolidated debt of about ₹91,000 crore, the high debt level itself should
have raised red-flags with lenders and the regulator. Given that the group has
about 135 subsidiaries — 27 direct and 105 indirect — and loans have been
extended to group companies, the regulator, as a pre-emptive measure, should
have ensured proper inspection of the books of accounts.
DIGGING
DEEPER
Road
construction is undertaken by IL&FS mainly through special purpose vehicles
floated by its subsidiary IL&FS Transportation Networks (ITNL). Crippled
infrastructure development and finance company IL&FS has claimed that if
funds worth Rs 16,000 crore stuck with concession authorities were released on
time, it wouldn't have landed in the mess it is currently in.
EFFECT
ON INDIVIDUAL’S INVESTOR
Since
the defaults have been on commercial papers, it will affect individual
investors, too. This is because mutual funds invest in them and these CPs are
supposed to be relatively secure investments. Even the value of unit-linked
insurance plans, endowment plans, the National Pension Scheme, etc. will be
hit. There may also be some indirect effects. For instance, several projects,
including the Bengaluru Metro construction plans, are likely to be delayed,
which will affect individuals, too, besides the firms involved.
WHY
GOVERNMENT IS KEEN IT SAVE IL&FS
There
are certain issues which I am very curious to understand but not getting any
answer and they are as below-
(1)
If IL&FS could be saved then why not Vijya Mallya?
(2)
Is it not an attempt to save foreign investors
