India’s Own Lehman Brothers Moment

By Anjan Roy

So close to the tenth anniversary of the collapse of the Lehman Brothers, India’s own Lehman moment had arrived, almost.

Infrastructure Leasing and Finance Services, better known as ILF&S to wider public, had been teetering to a collapse because of its inability to honour its payments obligations and the Union government has come to its rescue.

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 rating downgrades in some and default on some other financial instruments massively affected the financial markets.

In turn, this caused redemption pressure on the mutual funds, which held financial instruments issued by ILF&S and this had adversely impacted the sentiments on the stock markets, money markets and debt markets. In a way, things were getting out of hand and forced the government to intervene in the interest of maintaining financial stability.

The after-effects of the ILFS fiasco so closely mirror developments which had led to the much bigger global financial scam. Unchecked, the ILFS collapse could have a similar adverse impact on the Indian financial system.

What was even worse, while the company’s fortunes were sinking and it was staring at possible collapse of the entire operations, the management had blithely gone on giving themselves hefty pay hikes and other benefits.

The ministry of corporate affairs moved the National Company Law Tribunal, seeking removal of its existing board of directors. NCLT acceded to the government’s plea on the ground that failure of the company would reverberate across the financial system and create a broader crisis.

It was a simple case of biting more than it could chew. Compared with its capital base, ILFS had borrowed funds with glee and spent these on projects without bothering too much on their viability or the overall liquidity of the company.

As its large number of infrastructure projects failed to take off, the funds it borrowed became sticky and without adequate returns, ILFS started failing to meet its obligations. Any failure to meet payments obligations meant that its erstwhile lenders developed cold feet in giving more funds. The company was thus facing a “liquidity crisis”.

In its statement taking over the board, the Union finance ministry has assured that it would ensure that funds requirements of the company were fully met. The company has outstanding liabilities of Rs1,15,000 crore and it was facing cash calls on repayment and other dues totalling Rs91,000 crore. Against this huge liability, ILFS was planning to raise fresh funds through issue of non-convertible debentures, that is fresh loans. As the company was facing a situation in which there cash flows were negative, the banks had also stopped giving it fresh accommodation.

“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” said the finance ministry in its statement.

There is an emergent need to immediately stop further financial defaults and also take measures to resolve defaulted dues to the claimants. This would require a combination of measures of asset sales, restructuring of some liabilities and fresh infusion of funds by the investors and lenders, according to the ministry.

The confidence of the financial market in the credibility of the IL& FS management and the company needs to be restored. There appears to be significant liquidity gap in the company as estimated liabilities might not be covered by the assets or income flows.

The consolidated financial statement of IL&FS holding company and its subsidiaries, associates and joint ventures projected a highly exaggerated picture of its assets. The company’s balance sheet claimed non-current assets in the form of intangible assets amounting to over Rs. 20,000 crores.

However, bulk of the revenue was in the form of receivables, around 50%, which were locked up in litigation and arbitration. Added to this, there has been a sharp increase in bank deposits held in lien, which rose by Rs. 1,681.59 crores in 2017-18.

Overall, the company has negative cash flows from operations. Further the net outflow was Rs. 7,020 crores in 2017-18. From August 2018 the company has been making repeated defaults.

Financial experts noted there was deep-rooted mismatch in the debt-equity ratio 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. The high debt stress was clearly visible in the company and its main subsidiaries for the past so many years, but was camouflaged. (IPA Service)