Like in the case of Satyam, the government moved in quickly to dismiss the current board of IL&FS and replaced it with an independent board led by Uday Kotak. With men of the pedigree of Uday Kotak and Vineet Nayyar at the helm, there is a ray of hope that the issue may see earlier resolution. But before look at the road ahead, we need to understand why IL&FS is substantially different from Satyam and also why it is more serious.
- Satyam had a running world class software franchise with genuine clients and genuine business flows. Most of its clients continue to vouch for the quality of execution that Satyam had given them. The problems had arisen from funnelling of funds into real estate which went kaput. In the case of IL&FS this is a company that is in the business of lending and that is where it has gone wrong.
- The IL&FS story is a lot more complicated because the management had created a mesh of over 340 subsidiaries and the full extent of the problem could only gradually unravel. The problems at Satyam were nowhere as complicated as that.
- Above all, the biggest problem in IL&FS was a fundamental flaw in the business model of the company. It raised resources through CPs and CDs from banks and mutual funds at attractive yields and used these funds to lend to long term infrastructure projects. All was fine as long as the rollovers were happening smoothly. The problems arose when the yields went up sharply making it hard for IL&FS to raise funds. This fundamental model flaw needs to be addressed.
What is the agenda in front of the new Board of IL&FS?
The uncertainty is not going away in a hurry and IL&FS may be bankrupt for all practical purposes. But the bigger challenge for the IL&FS Board is to manage the entire process in a systematic manner. The asset monetization, the loan repayments, negotiations on haircuts must happen in a way as to not disrupt the financial markets. That will remain the key challenge for the board and that is to prevent the systemic risk.
- The IL&FS Board is actually running against time, which means that a wait-and-watch approach will not work in this case. It will only mean more defaults and the contagion could rapidly spread. We have already seen BOI AXA take a write-off of Rs.100 crore on its IL&FS exposure and if the process is delayed then other mutual funds may have no choice but to take a proportionate hit. That could spread the actual problem much more than required. Such a situation is best avoided.
- A pedigreed board consisting of marquee names like Uday Kotak and Vineet Nayyar with a sterling track record in business makes a lot of sense. Unlike in the previous cases like NSEL, the IL&FS board has to ensure that there is not much of a churn in the appointees as that could undermine the process.
- Money is the immediate challenge. Consider IL&FS’s stand-alone financials. Its short-term borrowings have increased. IL&FS has invested a large part in equity and also lent to subsidiaries and associates. Their inability to repay has affected its ability to repay. Consider these numbers. IL&FS group overall has to repay ₹25,798 crore by the end of 31 March 2019, out of the total ₹91,091 crore of debt. That could be the immediate challenge for the board because it cannot afford any big default.
- This is related to the previous point. IL&FS needs access to longer-term funds to refinance current liabilities and meet future fund requirements. One option is to identify current investments that can be sold or a few projects that can be divested to generate cash. Alternatively, existing shareholders like LIC, SBI and Oryx can provide a line of credit, which would be a more stable source. The government can also help by releasing stuck payments for its projects, especially from NHAI.
- The biggest task will be to clean up the Aegean Stables. The investigation needs to identify exactly what went wrong, fix responsibility and take action against the existing management. To tide over the crisis, some form of debt restructuring may become necessary.
- There are some long term measures also required. The IL&FS will have to re-examine the IL&FS business model. Being a financier, consultant, arranger, developer and operator of infrastructure projects is a mockery of the concept of specialization. More so if the financing is being done by short term loans. An option could be to separate the financing and infrastructure business into separate legal entities.
- A word of caution, while debt holders will have to take haircut, the equity shareholders will have to contend with the fact that the shares as of now are worth zero. Any value from now on will have to be created from scratch. Any new investment into the company will have to come with that clarity in mind.