What is the IL&FS cash crunch all about?

Published - September 29, 2018 08:30 pm IST

A bird flies next to the logo of IL&FS (Infrastructure Leasing and Financial Services Ltd.) installed on the facade of a building at its headquarters in Mumbai on September 25, 2018.

A bird flies next to the logo of IL&FS (Infrastructure Leasing and Financial Services Ltd.) installed on the facade of a building at its headquarters in Mumbai on September 25, 2018.

What is it?

The cash crunch and debt pile-up being faced by Infrastructure Leasing and Financial Services (IL&FS), a major infrastructure finance and construction company, has led to concerns about risks in the entire non-banking financial sector, a fear that spooked markets all of last week.

How did it come about?

The crisis began when it defaulted on a short-term loan from SIDBI a month ago. This was followed by a series of defaults that led to a ratings downgrade. IL&FS Financial Services, a 100% subsidiary of IL&FS, has also defaulted on loans worth ₹440.46 crore since September 12. The IL&FS funds long-term projects, of over 10 years, but its borrowings are of a lesser duration, which widens the asset liability gap. Broking firm JM Financial pointed out that IL&FS has an aggressive asset liability management profile. According to estimates, while for the one-year bucket, it has a positive mismatch, but for three years there is a 17% negative mismatch. Asset liability mismatch turns negative when the outflow of liabilities are more than the inflow of assets. Incorporated in 1987 and initially promoted by the Central Bank of India, Housing Development Finance Corporation Limited (HDFC) and Unit Trust of India (UTI), IL&FS has a complex structure with 169 subsidiaries. Over the years, its shareholding has broad-based and it inducted institutional shareholders, including the SBI, the LIC, ORIX Corporation of Japan, and Abu Dhabi Investment Authority. The LIC is the largest shareholder, with a 25.34% stake followed by ORIX which has 23.54%.

Why does it matter?

The IL&FS default rattled investors of non-banking finance companies, particularly housing finance companies with stocks like Dewan Housing Finance and Indiabulls Housing Finance dropping significantly. Banks and mutual funds are main sources of funding for housing finance companies and other non-banking finance companies. While banks contribute 40% of the funding, mutual funds contribute 30%. Mutual funds, in particular, have become a key source of short-term liquidity, with estimates suggesting that NBFC commercial papers have gone up three times since March 2016, with MFs now holding 60% of the total NBFC CP issuance. With the liquidity situation tight in September due to factors like advance tax outflow and rush by banks to meet targets, problems for NBFCs compounded as mutual funds too looked to cut exposure to the sector. Market estimates suggest mutual funds have around ₹2,000 crore exposure to IL&FS. Both the banking regulator and the market regulator swung into action. In a joint statement, the RBI and the SEBI said they are closely monitoring developments in the financial markets and are “ready to take appropriate actions...” The RBI later decided to open the liquidity tap by purchasing government bonds from open market operations. As of September 26, banks had availed themselves of ₹1.88 lakh crore through term repos from the RBI. Following infusion of funds, short-term rates that have spiked over 100 basis points in a week cooled down.

What lies ahead?

“IL&FS will not be allowed to collapse” — that was the statement of LIC chairman V.K. Sharma after a meeting with Finance Ministry officials last week. The banking regulator has also avoided any knee-jerk reaction so far and the strategy of the central bank is to be non-disruptive. The banking regulator also met the large shareholders of IL&FS, though the RBI has refrained from commenting on the matter. The IL&FS has initiated a three-way strategy to tide over the crisis: offer a rights issue, sell assets to repay debt and address liquidity issues till the asset sale starts. It is planning to raise ₹4,500 crore through a rights issue in which it will be issuing 30 crore equity shares at ₹150 per share. Its board has also approved the recapitalisation of group companies of ₹5,000 crore in IL&FS Financial Services, IL&FS Transportation, IL&FS Energy, IL&FS Environment and IL&FS Education.

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