When a private sector entity like IL&FS (Infrastructure Leasing and Financial Services) defaults on its financial dues and causes mayhem in the markets, what can the government do? Well, the Centre has responded by superseding IL&FS’ Board of Directors and appointing a new one in its place.

What is it?

Section 241 (2) of the Companies Act 2013, says that if the Central government is of the opinion that the affairs of a company are being conducted in a manner ‘prejudicial to public interest’, it can apply to the National Company Law Tribunal (NCLT) to prevent the oppression or mismanagement in the company. After examining the case, NCLT can pass an order to reconstitute its Board of Directors.

In the IL&FS case, the Centre petitioned the NCLT that a change in governance and management was required to bring back the group from the brink.

Therefore, the Centre was allowed to replace six members of the company’s Board. The government appointed Uday Kotak, GN Bajpai, Malini Shankar, Vineet Nayyar, GC Chaturvedi and Nand Kishore to the company’s new Board.

Why is it important?

Though there have been a few instances in the past of companies indulging in accounting fraud, the government resorts to superseding a company’s Board only in exceptional circumstances, where the larger interests of the economy or general public are compromised.

This is the second time that the government is superseding a private sector company’s Board after the Satyam case in 2009, where company’s books were manipulated.

In the IL&FS case, the Registrar of Companies conducted an enquiry as per the Companies Act, 2013 and concluded that there was mismanagement and compromise in corporate governance by indiscriminately raising long- and short-term loans/borrowings through public sector banks and financial institutions. Further, the government believed that the company’s liquidity problems and severe mismatch between its cash flows and repayment obligations could spill over to the entire financial system.

The IL&FS group’s defaults on inter corporate deposits and commercial paper had a severe impact on the debt, money and capital markets.

Considering the group’s bearing on financial stability of the economy, it was imperative for the government to look into the company’s financial crisis which could be better addressed by reconstituting its Board. NCLT thus approved the Centre’s proposal to let a six-member team take over the IL&FS Board.

Why should I care?

Like the Satyam scam, the IL&FS default has taken a toll on market confidence in the NBFC sector.

So, even if you are not an investor in the IL&FS group, if you have NBFC stocks, bonds or deposits in your portfolio, the roadmap for IL&FS will have implications for you.

Even if you have invested your hard-earned savings in a bank or debt mutual fund which lent to IL&FS, the action plan that the new Board comes up with will have an impact on your investments.

Resolving the IL&FS crisis with a debt pile of around ₹91,000 crore may be more complicated. The new Board after its first meeting will submit its report on the findings and a roadmap before the NCLT by October 31.

Whether it is renegotiation of loans with the banks or capital infusion into the company, the stock as well as bond markets will be waiting with bated breath for the rescue plan.

The bottomline

Superseding the Board may be a big step, but only the first one in resolving the IL&FS crisis.

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