Resolving Srei may be tougher than DHFL

The threat of Srei Group promoters stopping the RBI-ordered supersession of the board has ebbed, at least for now. It's time to look ahead at the resolution and the chances of a successful one. The RBI's letter to Srei, explaining reasons for the supersession of the company's board, was damning. It said:

Out of Rs 11,746 crore of borrowings as of June 30, 2021, SIFL (Srei Infra Fin Ltd) has defaulted with 12 lenders on Rs 3,566 crore of payments.

Out of Rs 20,411 crore of borrowings as of June 30, 2021, SEFL (Srei Equipment) has defaulted with 13 lenders on Rs 10,457 crore of payments.

Supervisory concerns included violation of income-recognition norms, evergreening of NPA accounts, connected lending, weak corporate governance standards, inadequate systems and control, poor compliance standards, etc.

Special audit conducted during December 2020-January 2021 observed that funds disbursed to certain borrowers were received back from such borrowers/their group companies on the same date/dates close to the date of disbursement, indicating evergreening.

Given such serious charges, the extent to which Srei's loans can be recovered, will be known only after the administrator and the forensic audit reveal the exact quality of its loans.

Separately, however, the initial enthusiasm, post the DHFL resolution, that India has found the right formula to resolve stressed finance companies, also sounds premature. It was in this burst of enthusiasm that bankers had requested RBI to dissolve the boards of the Srei group companies -- Srei Equipment and Srei Infrastructure -- to appoint an administrator and then take the companies, under section 227, to the IBC. The RBI did as urged, but only after a few weeks. It's possible the regulator was skeptical whether the DHFL formula would succeed in Srei's case. Now the skeptics are growing. Here's why:

In the first place, DHFL had good retail home loan assets which became attractive even as interest rates fell and the realty market started looking like recovering from a long night of distress. The two Srei companies don't have much in retail loans to talk about. Srei Equipment does, but Srei Infra has largely funded roads, power companies and realty developers. Such infrastructure projects are still reeling under memories of past problems and may not find a very long list of takers.

 Srei Board superseded by RBI; here’s what’s next

The bigger skepticism arises from the fact that the Srei Group is a complicated one with perhaps more than 40-50 companies directly or indirectly controlled by the Kanoria family. The Kanoria Foundation is at the top and has four fully owned holding companies -- Aksara Commercial, Adisri Commercial, Adishakti Commercial & Vara Technology -- through whom it owns its web of companies. Srei Infra has lent to a bunch of companies in which Kanoria Holding has an indirect or even direct interest. For instance, it has loaned to Shrishti Infra, say bankers, which is owned by Adishakti Commercial, while Srei Infra itself is owned by Adishakti Commercial. Such lending to group companies is rife, say bankers, which was what led RBI to order an audit of the two listed lenders earlier this year.

The Kanoria Foundation or the Srei Group has also floated trusts and funds which are invested in a bunch of companies. For instance, IPCL, a company owned by Aksara Commercial, transferred its investment division to Power Trust. It is not known who are the beneficiaries of this trust, but since it was formed out of assets owned by a Kanoria subsidiary, it stands to reason that the Kanoria Foundation and/or the Srei Group could be a beneficiary, if not the biggest beneficiary of the trust. Srei Infra has lent some companies owned by the Trust, which appear to be related lending, according to bankers.

The Kanoria Foundation has floated funds such as Srei Alternate Investment Trust and Srei Multiple Asset Investment Trust which own companies that Srei Infra and Srei Equipment have lent to. All the ultimate contributors to the funds are not known, but it is typically, such holding structures that make it tough to say how much is "related party" lending.

Loans to some group companies have been lent at attractive rates for long tenors -1 percent for the first 5 years, with interest bunched up to yield 12 percent from the 5th to the 8th year. Bankers see this as a sign of connected lending. Srei Infra Chairman Hemant Kanoria denied that many companies deemed to be "related" by the RBI audit are actually related parties.

The administrator appointed by the RBI, Mr Rajneesh Sharma, and the KPMG team, which has been engaged by the bankers to do a forensic audit, have their task cut out to unpeel the layers and find out the exact debt and equity connections within the group. And this is where the IBC format may be a constraint. The administrator, at the moment, doesn't have the power to summon the books of all Srei group companies; in contrast, Mr Uday Kotak had the books of all IL&FS companies when he started resolution of the stress in that group. Of course, if the administrator Rajneesh Sharma notices large receivables beyond 90 days, he can take these group companies, as well, to the NCLT. But clearly that means the resolution can take time.

Another big problem may hit the bankers and the administrator when they start to apportion the money received. Srei Equipment may have about Rs 1500 crore of outstanding debentures, many of which are held by pension and provident funds of companies like MPEB (Madhya Pradesh Electricity Board), HPGCL and HVPNL (both Haryana power generation and distribution companies), MSRTC, GSRTC (both state road transport companies). Srei Infra has probably half that amount of debentures, with a part held by provident and pension funds of various PSUs like MTNL, KSRTC, Gujarat Housing Board.

Under IBC, banks get first charge of the recoveries and debenture holders, especially unsecured holders will get much less. If the Srei companies throw up large defaults, it may be politically tough to give the pension and provident funds a lower share.

The bigger worry is how long the process may take. IL&FS with over Rs 1 lakh crore in loans is unresolved after three years of work. The Srei books are one-third of that amount, but may still suffer from hurdles like poor interest from bidders and litigation by debenture holders and even the promoters.

Indeed, a daunting task lies ahead for the administrator and the bankers.