IL&FS crisis: SEBI expands probe in role of credit rating agencies

Securities and Exchange Board of India (SEBI) has reportedly expanded its probe into the role of credit rating agencies (CRAs) after a forensic audit flagged cases of misconduct by them in rating the IL&FS group companies. The move from the market regulator came after a forensic audit by Grant Thornton pointed out that credit rating agencies gave top ratings to IL&FS group entities despite being aware of the weak financials of the group. The Enforcement Directorate (ED) also discovered that the now-bankrupt company's senior management interfered in the ratings review of its group firms, seeking their upgradation on many occasions.

The board of Infrastructure Leasing & Financial Services (IL&FS) was overhauled in October last year after massive defaults by the group and suspected wrongdoings by the former top management. In light of this, the new board mandated Grant Thornton to carry out a special audit for all high-value transactions undertaken by IL&FS and some of its group companies for the period between April 2013 and September 2018. The Grant Thornton audit report was aimed at identifying siphoning or misuse of funds, fraudulent transactions, their modus operandi, the quantum of the financial loss, and fixing of responsibility.

Grant Thornton was also asked to review the ratings provided by various credit rating agencies (CRAs) to IL&FS Transportation Networks Ltd (ITNL), IL&FS Financial Services Ltd (IFIN) and IL&FS Ltd. During the period under review, the IL&FS group companies were awarded credit ratings by Crisil, CARE, ICRA, India Ratings (a 100 per cent owned subsidiary of Fitch Ratings) and Brickwork.

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During its audit, Grant Thornton came across multiple e-mails between 2008 and 2018 which indicated that the IL&FS group was under stress or faced liquidity issues since 2015. The main reasons for the liquidity crunch were identified as a significant increase in debt in the various group companies, majorly ITNL, high capital requirement for ITNL and its various SPVs, decreasing profit of IL&FS group and support to weaker group companies.

It has also identified instances which suggest that CRAs had multiple concerns for the last 6-7 years on the operations of the IL&FS group, but the ratings assigned by them remained consistently high until they were reversed or downgraded after June-July 2018.

Listing potential strategies undertaken by the former top brass of IL&FS to get good ratings or avoid a downgrade, the report said the rationale which is supposed to be drafted by the rating agencies were materially modified on suggestions from the then key employees of the group. In cases where IL&FS became aware that ratings were not going to be favourable, they either delayed the process of rating surveillance or avoided the rating being made public.

In certain instances, intentionally incorrect or incomplete information was being provided to the CRAs to avoid rating downgrade. In cases of desired ratings not being received, the IL&FS management used to exert pressure on rating agencies to either withdraw the ratings or approach other rating agencies that would provide the desired ratings.

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The Grant Thornton audit also cited several e-mails suggesting that the CRAs, after meeting with the then key employees of IL&FS, would not downgrade their ratings as initially decided. In its report, Grant Thornton flagged several cases amounting to potential favours and gifts given to senior officials of the agencies and even their family members. These favours ranged from tickets for a Real Madrid football match and hefty discounts on a luxurious villa to a Fitbit watch and shirts.

The special audit has also flagged a potential conflict of interest between IL&FS and CARE, as for the period 2007 to 2013, IL&FS Ltd and IFIN owned equity shares of approximately 5-9 per cent in the rating agency. During the same period, CARE had also provided ratings to instruments of IFIN, ITNL and IL&FS Ltd, indicating a potential conflict of interest as CARE was rating its equity shareholder.

Meanwhile, India Ratings, one of the agencies under the scanner refuted the forensic audit on grounds that it was "based on partial and selective source material from IL&FS and demonstrates a limited understanding of the credit rating process".

In this month, ICRA and CARE have sent their chief executives on leave, whereas India Ratings has clarified that a senior official at Fitch's Singapore office has been dismissed after being found guilty of misconduct.

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(With PTI inputs)