IL&FS' lenders to feel heat of defaults in Q2, see dent in capital adequacy

Provision for bond value erosion to hit treasury income

The lenders, especially public sector banks (PSBs) and institutions with exposure (loans and debt) worth Rs 570 billion, to Infrastructure Leasing and Financial Services (IL&FS) will feel the heat of defaults in the financial year's second quarter ended September.      

They might have to set aside additional capital for default grade loans and for mark-to-market (recalculating assets at current values) provisioning for erosion in the value of bonds of IL&FS group entities.

PSB executives said loans to the group holding company, IL&FS, and entities might still be treated as "standard". But, the risk weight for loan exposure will rise sharply from 20 per cent (for AAA-rates ones) to over 100 per cent for default (grade 'D'). 

Given the Rs 130-billion loan exposure to the holding entity, the capital to be set aside for default grade loans will go up by at least Rs 10 billion. This would have a marginal impact on the capital adequacy ratio, varying among lenders, bankers said. 
 

Loans will be treated as non-performing assets (NPAs) only when they stay overdue continuously for 90 days. As for IL&FS group entities, most loan exposure is standard and the issue about NPA and provisioning might arise for third-quarter results.

A top executive with a Mumbai-based PSB said those who hold paper like bonds in the treasury book will see the impact in the second quarter. "When the rating is default grade, obviously the yield on bonds has gone up (the price has eroded). There is no escape from it."  

In early August, loans and non-convertible debentures (NCDs) of IL&FS were carrying an 'AAA' rating. With a series of delays in repayment, ratings agencies effected multi-notch downgrades and finally brought the rating down to 'D' by the middle of September. 
 

The consolidated debt of IL&FS rose to Rs 910.9 billion in 2018, from Rs 486.7 billion in 2014. Interest outgo rose to Rs 79.2 billion in this period, from Rs 39.7 billion. By 2018, the company had not even been making enough profit to take care of its interest expense, leading to the default. Of the Rs 910.9 billion debt obligation, Rs 570 billion was from PSBs.

On Monday, the Union finance ministry had said the series of defaults by IL&FS group companies in August and September on deposits, commercial paper and non-convertible debentures, and the rating downgrades, had resulted in massive effects in the financial markets. It caused redemption pressure on mutual funds (MFs) which held such financial instruments. And, hit sentiment on the stock, money and debt markets.

The redemption pressure on MFs has created a large systemic risk, leading to quality paper being sold at steep discounts to meet redemption demand. The debt market shocks got transferred to the equity market, sparking selloffs, particularly in finance companies' stocks and sectors linked with non-bank financial corporations' financing. 
 

IL&FS has been contemplating the monetising of significant assets of group companies for servicing the debts. It had also sought further financial assistance from institutional shareholders via a proposed rights issue.