In the later half of 1996, most of the executives on the board of the tobacco to hotels major, ITC Ltd., were sent to jail on charges of FERA and excise violations. This was when the reign of ITC Classic Finance (Classic), ITC’s flagship financial services 49% subsidiary, began to crumble. The various scandals in ITC has definitely had a damaging impact on its brand. This resulted in a lot of desperate fixed deposit holders wanting to withdraw their funds. Almost 50 crore rupees was withdrawn within barely few days after the breakout of such a crisis. This uncertainty eroded the value of its portfolios and had a repelling effect on many potential investors. To make this situation worse, International Finance Corporation (IFC), which had provided $45 million to Classic, also held back offers until the ‘situation improved’.
With the increase in redemptions from Rs 750 crores in mid 1996, deposits decreased to Rs 550 crores in May 1997. Classic was left with barely 6 lakh depositors, from a peak level of about a million. Classic was given a credit line of Rs 75 crores by ITC in order to maintain the cash flow in order to meet redemption pressure. With the huge discrepancy in assets and liabilities, as well as the slow divestment process of stakes held by classic during 1995–96, key personnel began to leave the company. This added to the company’s woes.
Nothing seemed to be working out in favor of Classic since they were a company with non-performing assets of over Rs 350 crores. Just as all hope was lost, ICICI Ltd. stepped in as the “knight in shining armor” to save Classic while taking the corporate world and the media by surprise. The question that kept everyone pondering about was, “What did ICICI see in Classic that other companies could not?”
ITC realized that none but the country’s three mega-financial institutions — Industrial Development Bank of India (IDBI), Industrial Finance Corporation of India (IFCI), or ICICI would be in a position to absorb Classic’s losses and bad debts. ITC approached IDBI and ICICI and held prolonged discussions with both these financial institutions. Eventually, a deal was struck with ICICI at a swap ratio of 1 ICICI share for 15 shares of Classic.
Shareholders of Classic approved the company’s amalgamation with ICICI with 99.93% of the votes in favor of the resolution, in January 1998. ICICI justified that their goal was to move towards universal banking with a spectrum of financial solutions. Any opportunity to move closer to the goal will be capitalized. However, a section of ICICI shareholders, holding shares of both ICICI and ITC Classic, opposed the merger resolution claiming that the merger ratio was unfair and was ‘leaked’ to the market. The price dropped and adjusted to the merger ratio much before the announcement of the ratio by the company. If the market price of the share was one of the considerations, then the fall in the price of the share just before the merger was a clear indication that the swap ratio was already in the market before the announcement. Arguments were made against ICICI’s decision to retain only those Classic employees whom it found capable after internal evaluations. However, since the dissenting shareholders were in minority, the resolution was successfully tabled.
ITC and its affiliate companies subscribed to a preferential share issue of Rs 350 crore of ICICI as part of the merger proposal. The preferential share capital carried a nominal interest of Re 1 for every Rs 1 crore of share capital issued for a period of 20 years. The infusion of funds in ICICI by ITC was to take care of any future liabilities arising out of the merger. One-fourth of Classic’s asset base of Rs 1,000 crore accounted for investments in subsidiaries that operated in the stockbroking and mutual funds business. As ICICI was not interested in them, ITC provided Rs 272 crore to repay secured creditors, and to make up for the losses due to the decline in the investments made by these subsidiaries.
It was decided to prepay Classic’s creditors to reduce its interest burden. ITC also assumed the liabilities and obligations in relation to all guarantees and indemnities issued by Classic. ICICI accepted to absorb the Classic personnel as per its requirements and the rest were redeployed by the ITC group.
While ICICI was happy over getting a large deposit base of about seven lakh, it seemed to have ignored the fact that the base was built on high interest rates offered by Classic — about 16%. ICICI was forced to give this promised interest while the going rates were much lower. Also, deposits aggregating Rs 550 crore were to mature by 1999, threatening to be a cash outflow burden on ICICI. However, ICICI tried to average out the interest outgo by asking the depositor coming in for renewals to switch over to ICICI books.
This was easy to do as the depositors got the security of an AAA-rated institution. ICICI soon began the ‘clean-up operation’ of Classic’s balance sheet by substituting high-interest liabilities. As 75% of Classic’s clients were ICICI clients as well, ICICI was confident of recovering 8–16% of the outstanding amounts from various parties. ICICI sources claimed that the Classic merger would not affect the dividend or the non-performing assets of ICICI. This was supported by his justification that Classic was a company with an asset base of just Rs 1000 crore, while ICICI’s asset base was as large as Rs 41,000 crore.
And that’s what happened :)
